CTBI - Community Trust Bancorp: Provision Normalization To Hurt Earnings

Summary

• The strengthening regional economies will likely keep loan growth at a mid-single digit range, which is higher than in previous years.
• More liabilities than assets are scheduled to reprice in the short term. However, asset repricing will outweigh liability repricing thanks to high deposit pricing power.
• Provisioning will likely normalize amid a high-inflation environment.
• The December 2022 target price suggests a small upside from the current market price. Further, CTBI is offering a high dividend yield.

Earnings of Community Trust Bancorp, Inc. (CTBI) will most probably dip this year as provisioning for expected loan losses will approach a more normal level. On the other hand, mid-single-digit loan growth will lift earnings. Further, slight margin expansion is likely to support the bottom line. Overall, I'm expecting Community Trust Bancorp to report earnings of $4.41 per share for 2022, down 11% year-over-year. Compared to my last report on the company, I've slightly increased my earnings estimate as I've favorably tweaked all income statement line items. For 2023, I'm expecting earnings to grow by just 1% to $4.44 per share. The year-end target price suggests a small upside from the current market price. Based on the total expected return, I'm maintaining a buy rating on Community Trust Bancorp.

Strong Regional Economies to Sustain Loan Growth

The rate of loan growth slowed down to 1.2% (4.9% annualized) in the second quarter from 3.2% (12.6% annualized) in the first quarter of this year. I'm expecting a further deceleration in the growth rate because the second quarter’s rate was a bit higher than the historic norm despite the decline. Further, high borrowing costs are bound to dampen credit demand, especially for residential loans which make up around a quarter of total loans.

However, unlike previous years when loan growth remained in a low-single-digit range, I'm expecting future loan growth to be in the mid-single-digit range. This is mostly because of strong regional economies. Community Trust Bancorp operates mostly in Kentucky with a limited presence in West Virginia and Tennessee. All three states have recovered well from the pandemic. Their unemployment rates are near historic lows and their coincident indices show that their economies are improving rapidly.

Considering these factors, I'm expecting the loan portfolio to grow by 1% every quarter until the end of 2023. Further, I am expecting deposit growth to match loan growth. However, the growth of other balance sheet items will likely trail the rate of growth of loans and deposits. The equity book value will, in particular, grow by only a small amount because of the effect of rising interest rates on the market value of available-for-sale securities.

The equity book value per share has already dropped to $35.32 per share at the end of June 2022 from $39.13 at the end of December 2021. This fall was largely attributable to bloated unrealized mark-to-market losses on available-for-sale securities. Further pressure on the equity book value is likely because of the ongoing monetary tightening. However, I'm expecting a rate cut in the second half of next year, which will reverse some of the unrealized mark-to-market losses. The following table shows my balance sheet estimates.

In my last report on Community Trust Bancorp, I estimated earnings of $4.31 per share for 2022. I've now slightly increased my earnings estimate following the second quarter’s results. The upward revision is not attributed to any big changes in any line item of the income statement. I have slightly tweaked all line items.

Actual earnings may differ materially from estimates because of the risks and uncertainties related to inflation, and consequently the timing and magnitude of interest rate hikes. Further, a stronger or longer-than-anticipated recession can increase the provisioning for expected loan losses beyond my estimates.

Moderate Total Expected Return Warrants a Buy Rating

For more than a decade, Community Trust Bancorp has increased its dividend every year in the third quarter. Based on my earnings outlook, I'm expecting Community Trust to increase its dividend by $0.02 per share in the third quarter of 2023, leading to a full-year dividend of $1.80 per share. My earnings and dividend estimates suggest a payout ratio of 41% for 2023, which is the same as the last five-year average. The dividend estimate suggests a forward dividend yield of 4.2%.

I’m using the historical price-to-tangible book (“P/TB”) and price-to-earnings (“P/E”) multiples to value Community Trust Bancorp. The stock has traded at an average P/TB ratio of 1.32 in the past, as shown below.

The stock has traded at an average P/E ratio of around 11.1x in the past, as shown below.

Equally weighting the target prices from the two valuation methods gives a combined target price of $46.30 , which implies a 7.8% upside from the current market price. Adding the forward dividend yield gives a total expected return of 12.0%. Hence, I’m maintaining a buy rating on Community Trust Bancorp.

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