SSB - SouthState Corporation: Unjust Valuation Based On Performance

2023-11-17 14:06:47 ET

Summary

• SouthState Corporation's Q3 results were mixed, with revenues and earnings under pressure, but some growth in loans and deposits.
• The stock's valuation is a concern, as it is expensive relative to other banks performing better on key metrics.
• There are cracks in SouthState's asset health, with provisions for loan losses increasing and non-performing loans on the rise. The stock's valuation is questionable here.

As we all know, this rising rate environment hammered banks. One name that has executed well in this tough environment is SouthState Corporation ( SSB ). However, the stock offers very little dividend protection, as it yields 2.7% and is trading at a pricey valuation relative to peers that we have rated as buys recently, all of which have enjoyed significant trading gains in the last month.

We were asked by a member today regarding our thoughts on this bank, so we decided to examine the key metrics we follow for companies like this. Let us discuss the key banking metrics we follow from the recently reported Q3.

SouthState Q3 was mixed

The bank's operational results were mixed in Q3 . SouthState saw revenues and earnings pressure. It also had continued loan growth, and regained some past declines in deposits. The top line fell from last year. The Q3 revenues were $428.2 million, falling 1.6% from $435.4 million last year.

We saw noninterest income down to $73 million while there was also weakening margins. Net income was $124 million down from $133 million last year. Thus, EPS fell to $1.62 from $1.75 a year ago which missed consensus by $0.01. While new loans are being made at higher rates, the costs to acquire funding (deposits) has been on the rise as banks compete for customer deposits. In Q3, we saw net interest margins of 3.49% down from 3.55% last year. Some of the banks we prefer have still widened their margins, though for the most part margins are down industry wide. Net interest margin was also down from 3.62% that was attained in Q2 . Core net interest income increased was down $5 million from the sequential quarter, to $351 million, and down $1 million from a year ago. While we suspect the rate environment to improve in 2024 for banking operations, we rate the stock neutral on valuation.

Valuation

The valuation of the stock is our main issue here. SSB stock is somewhat expensive at $77 relative to the tangible book value per share at the end of the quarter which was $42.26. It is noteworthy that tangible book was up from last year, but dipped $0.70 from Q2. Normally we would contend that premium performance commands a premium price, but this is expensive relative to a lot of other banks which are performing better on the key metrics we follow. That said, general book value is a more reasonable $68.81. Overall, the stock is at a premium, and with a lack of growth, we think you remain neutral here.

SouthState loans and deposits

Growth in loans and deposits are critical metrics. Banks take in deposits and lend out at a high rate and collect the fees and the spread. The formula has worked for centuries. In Q3, deposits did dip, but this has been a common theme of many bank reports. Deposits were up from the sequential quarter but $193 million which was welcomed news, though as we saw with margin pressure the cost of deposits rose dramatically to 1.44%, up 33 basis points from Q2, which offset the gains on yields on loans. Loans increased $480 million, or 6% annualized, led by consumer real estate loans and commercial real estate loans. Total loans were $32.0 billion. What we do expect is

SouthState Corporation's asset health

One of the main reasons SouthState stock commanded a premium is that the company has long had strong and expanding asset health metrics. However, we have seen cracks in the asset health as well, which gives us pause. The provisions for loan losses was up heavily from last year. The provision for credit losses was $32.7 million, rising from $23.9 million a year ago. However provisions did tick down from the sequential quarter's $38.4 million which was a positive.

That said, non-performing loans have increased heavily from last year. Non-performing loans increased to 0.52% of all loans in Q3, versus 0.35% a year ago. This was about flat from the sequential quarter too and a weakness that cannot be overlooked. We will be closely watching for trends on this key metric going forward. Net charge-offs were $13.2 million of 0.16% annualized which was a huge reversal from a credit a year ago in the third quarter of -0.02% of all loans.

One other thing that we would like to point out is that the bank has a strong efficiency ratio this is why some premium is still deserved. This efficiency ratio improved was 54%, a slight increase from 53% a year ago. This led to a decline in the return on tangible equity to 15.5% from 19.4% in the quarter, while the return on average assets was 1.10% down from 1.27% a year ago, and down from 1.12% in the sequential quarter. So, given these trends in quality metrics, we think the stock's valuation does not justify a buy on the performance

Final thoughts here

The macro situation is tough for banks, but we have identified a few stronger performing banks with better yield that have traded significantly higher since our recent buy calls. While SouthState Corporation has also seen some gains, the key difference here is this bank is significantly more expensive but does not boast the growth or quality assets it once did. As such, this one is best avoided.

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