HTH - Hilltop Holdings: A Best-In-Class Regional Bank Wait For A Better Entry Point

2023-08-16 20:02:57 ET

Summary

• Despite a challenging near-term operating environment, Tangible Book Value increased for the fifth consecutive quarter.
• HTH is well-positioned with attractive capital ratios, solid asset quality, and opportunities to streamline the business.
• With a talented and motivated management team and a robust balance sheet, we are optimistic on HTH's long-term future.

Snapshot

Hilltop Holdings Inc. ( HTH ) provides a variety of financial offerings (business / consumer banking and financial products / services) through three segments: Banking, Broker-Dealer, and Mortgage Origination.

In January, we noted the stock's recent run and at 1.2x tangible book value ((TBV)) advised caution given potential 2023 headwinds. For us, that meant reducing our overweight position to parity.

About 8 months have passed, let's review how that has played out.

Most recently, the company reported mixed 2Q results. From a headline perspective, HTH exceeded consensus on the topline but missed the EPS target. However, the firm is followed by only a handful of analysts and their estimates tend to fall within a wide range.

The lack of a "true" consensus helps explain why the stock has been choppy, dropping 13% post-earnings and then partially bouncing back 9% thereafter.

Currently trading at 1.1x TBV, estimated to be $27.45, we'll keep HTH as a hold and will look to increase our exposure should it trade below TBV.

Background

Headquartered in Dallas, TX, HTH was founded in 1998 as a real estate investment firm specializing in manufactured home communities.

In 2005, Gerald Ford, the company's current Chairman and largest shareholder, joined the Board and transformed HTH into a financial holding company via a series of acquisitions and divestitures.

Today, the firm's primary line of business is providing traditional commercial and consumer banking services through PlainsCapital Bank and its wholly-owned subsidiary PrimeLending.

In addition, HTH's broker-dealer subsidiaries (Hilltop Securities Inc. and Hilltop Securities Independent Network Inc.) provide a full complement of securities brokerage, institutional, and investment banking services, as well as, clearing services and retail financial advisory.

HTH has roughly $17 billion in assets and operates 59 bank branches in Texas, 290 mortgage locations in 45 states, and 51 broker-dealer offices in 19 states.

The firm distributes an annual dividend of $0.60 per share, which equates to a roughly 2% yield.

Recent Results

In 2Q, despite a challenging operating environment, TBV increased for the fifth consecutive quarter.

Headwinds that initially began in 2022, and continued through the first half of 2023, include lower mortgage volumes, reduced deposit balances, a swift ramp in interest rates, and unclear economic prospects in the U.S.

Jeremy B. Ford, President and CEO of Hilltop, summarized the quarter…

Hilltop's operating results during the second quarter of 2023 reflected the challenging environment which included rising funding costs, an inverted yield curve and economic uncertainties. PlainsCapital Bank recognized an increase in its provision expense due to a combination of factors including deterioration in the economic outlook, negative credit migration and loan growth, as well as a decline in its net interest margin.

At PrimeLending, we saw a modest rebound in the gain-on-sale margin, though the business continues to face challenges from a lack of housing inventory and affordability across the country. HilltopSecurities benefited from higher interest rates this quarter that drove a pre-tax margin of 16% on a 13% year-over-year increase in net revenues."

As a result, revenue of $308.8 million increased 35% q/q, but declined 43% y/y due to a very challenging set of 2022 comps. Net income of $19.9 million declined 28% q/q and 44% y/y due primarily to a larger than expected ACL (Allowance for Credit Losses) increase.

However, despite the near-term challenges, HTH is well-positioned with attractive capital ratios, solid asset quality, and opportunities to streamline the business and right-size expenses.

One final comment on the quarter, management noted share repurchases are not currently compelling given the stock valuation and macroeconomic uncertainty. However, if the stock price declined materially, buybacks are expected to restart.

Thesis

Although we are not adding shares at the current valuation, HTH remains a holding as it offers multiple (long-term) winning attributes.

Great Management

The firm's chairman and largest shareholder, Gerald Ford, is one of the nation's most accomplished financial services executives. Ford has made a career, and billions of dollars, investing in the bank sector.

And since joining HTH, Ford's vision has created substantial value with shares returning almost 300%, from ~$8 per share to ~$31 today, plus dividends.

Significant Insider Ownership

Not only is management seasoned and accomplished, but also perfectly aligned with shareholders. Insiders own almost 30% of shares outstanding, including Ford's stake of 24%. This dynamic incentivizes management to maximize profitability and shareholder value.

Shareholder-Friendly Capital Allocation

Likely due to its weighty ownership stake, management is laser-focused on prudent capital allocation. For example, HTH has raised the quarterly dividend seven consecutive years and currently offers a ~2% yield.

In addition, the firm has aggressively repurchased shares below book value. Over the last three years, HTH has reduced shares outstanding by over 28%.

Although we do not expect management to be aggressive at current levels, its history of buying shares below book value typically provides a floor.

Robust Balance Sheet

Despite the regular dividend payout and opportunistic share repurchases, HTH maintains a rock-solid balance sheet. With a tier 1 capital ratio of 17.6%, the firm is significantly overcapitalized, providing a safe haven in the current environment.

Final Thoughts

HTH reported 2Q results roughly in-line with our forecast. The firm faces several headwinds that are expected to continue to challenge near-term results.

However, with a talented and motivated management team and a robust balance sheet, we are optimistic on HTH's long-term future. In fact, HTH is our favorite southern regional bank.

At 1.1x tangible book value ((TBV)), estimated to be $27.45, we are keeping HTH at hold and will look to increase our exposure should it trade below TBV. Management's history of repurchasing shares below book value should provide a floor for patient investors (and is wildly accretive for long-term investors).

Although unlikely in the near term, should shares jump to the mid-30s, we would unwind our position.

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