2023-04-12 16:11:03 ET
Summary
- Virginia’s economy will drive loan growth, which will, in turn, support earnings.
- The risk level appears moderately high due to elevated levels of unrealized losses on AFS securities, a large balance of uninsured deposits, and sizable exposure to office properties.
- The year-end target price suggests a moderate upside from the current market price. Further, AUB is offering a decent dividend yield.
Earnings of Atlantic Union Bankshares Corporation (AUB) will most probably increase this year thanks to Virginia's economy which should support loan growth. Further, a slight margin expansion will lift earnings. Overall, I'm expecting Atlantic Union Bankshares to report earnings of $3.24 per share for 2023, up 9% year-over-year, and $0.85 per share for the first quarter of 2023, down 6% year-over-year. Compared to my last report on the company, I've slightly reduced my earnings estimate. The year-end target price suggests a moderate upside from the current market price. Further, the company's risk level is currently moderately high. Based on the total expected return and the risk level, I'm downgrading Atlantic Union Bankshares to a hold rating.
Virginia's Strong Economy to Sustain Loan Growth
Atlantic Union Bankshares' loan portfolio grew by a remarkable 3.8% in the fourth quarter of 2022, which took the full-year growth to 9.5%. Most of the growth was attributable to the commercial and industrial (C&I) segment. The fourth quarter's extraordinary performance is unlikely to be repeated this year mostly because of high-interest rates which will dampen credit demand.
On the other hand, strong regional job markets provide a positive outlook for credit demand. Atlantic Union is mostly based in Virginia, with a limited presence in Maryland, North Carolina, and Georgia. As shown below, Virginia's unemployment rate is very low, at around 3.2%, which is below the national average.
The Federal Reserve projects the country's unemployment rate to rise to 4.5% in 2023, from an average of 3.6% for 2022, and 3.5% in March 2023. While the country's unemployment is expected to rise this year by around 100 basis points, Virginia's unemployment rate is unlikely to rise that much. This is because of the contribution of the U.S. government and the public sector to Virginia's economy. The public sector is usually a more stable employer than the private sector.
Management mentioned in the earnings presentation that it is expecting 6%-8% loan growth for 2023. Considering the factors mentioned above, I believe loan growth will likely be at the lower end of management's guidance.
Management emphasized its focus on growth through whole-bank acquisitions, non-banks acquisitions, minority stakes, and partnerships in the presentation. However, as the company has not made any announcements of upcoming M&A transactions, I've excluded this factor from my projections.
The following table shows my balance sheet estimates.
Financial Position | FY18 | FY19 | FY20 | FY21 | FY22 | FY23E |
Net Loans | 9,675 | 12,569 | 13,861 | 13,096 | 14,338 | 15,218 |
Growth of Net Loans | 36.2% | 29.9% | 10.3% | (5.5)% | 9.5% | 6.1% |
Other Earning Assets | 2,486 | 2,960 | 3,596 | 4,829 | 3,817 | 3,972 |
Deposits | 9,971 | 13,305 | 15,723 | 16,611 | 15,932 | 16,909 |
Borrowings and Sub-Debt | 1,756 | 1,514 | 841 | 507 | 1,709 | 1,778 |
Common equity | 1,925 | 2,513 | 2,542 | 2,544 | 2,200 | 2,262 |
Book Value per Share ($) | 29.2 | 31.3 | 32.2 | 32.9 | 29.3 | 30.2 |
Tangible BVPS ($) | 17.4 | 19.6 | 19.6 | 20.2 | 16.6 | 17.5 |
Source: SEC Filings, Author's Estimates(In USD million unless otherwise specified) |
Margin Slowdown Ahead
Atlantic Union Bankshares' net interest margin continued to grow strongly in the fourth quarter of 2022. The margin expanded by 27 basis points during the quarter, following a growth of 19 basis points in the third quarter of last year. Half of the loan portfolio is based on variable rates, as mentioned in the conference call. Therefore, the asset yields, and consequently the margin, can be expected to continue to rise in the first half of 2023 while the up-rate cycle continues. However, the pace of growth will be much slower than the pace witnessed last year. Management explained in the conference call how it was already reducing the asset sensitivity so that rate cuts won't hurt much. It has entered into a few swaps to protect from falling rates. I believe rate cuts will start next year, so I'm satisfied with management's proactive measures.
The results of management's rate-sensitivity simulation model show that a 200-basis points hike in rates can increase the net interest income by 8.25% over twelve months, as mentioned in the 10-K filing . This sensitivity is lower than the sensitivity at the end of 2021, as shown below.
2022 10-K Filing
As mentioned in the presentation, management expects the margin to be between 3.70%-3.75%, which is barely different from the fourth quarter's margin of 3.70%. Considering the discussion above and management's guidance, I'm expecting the margin to grow by just four basis points this year.
Expecting Earnings to Grow by 10%
The anticipated loan growth will drive earnings this year. The slight margin expansion will also provide some support. On the other hand, an inflation-driven growth of non-interest expenses will limit earnings growth. Overall, I'm expecting Atlantic Union Bankshares to report earnings of $3.24 per share for 2023, up 9% year-over-year.
Atlantic Union is scheduled to announce its first-quarter results on April 25, 2023. I'm expecting the company to report earnings of $0.85 per share for the first quarter, down 6% from the fourth quarter of 2022. I'm expecting earnings to dip mostly because of an inflation-driven surge in operating expenses.
The following table shows my income statement estimates.
Income Statement | FY18 | FY19 | FY20 | FY21 | FY22 | FY23E |
Net interest income | 427 | 538 | 555 | 551 | 584 | 686 |
Provision for loan losses | 14 | 21 | 87 | (61) | 19 | 24 |
Non-interest income | 104 | 133 | 131 | 126 | 119 | 103 |
Non-interest expense | 338 | 418 | 413 | 419 | 404 | 454 |
Net income - Common Sh. | 146 | 194 | 153 | 252 | 223 | 243 |
EPS - Diluted ($) | 2.22 | 2.41 | 1.93 | 3.26 | 2.97 | 3.24 |
Source: SEC Filings, Author's Estimates(In USD million unless otherwise specified) |
In my last report on the company, I estimated earnings of $3.58 per share for 2023. My updated earnings estimate is lower than my previous estimate as I've tweaked several of my assumptions. I haven't made any big changes in any of the inputs for my model.
The Risk Level Appears Moderately High
I believe Atlantic Union's risk level is currently moderately high due to the following factors.
- Moderate level of unrealized losses. As interest rates rose last year, the market value of fixed-rate available-for-sale ("AFS") securities fell. The resultant unrealized losses amounted to $463 million at the end of last year, which is about 21% of the total equity balance and twice the net income reported for 2022. I'm expecting these losses to reverse when interest rates start falling next year. However, following SVB Financial's ( OTC:SIVBQ ) case, the incurring of unrealized losses is no longer a scenario that can be easily dismissed.
- Material exposure to CRE loans. Banks that focus on loans backed by office properties may start to feel pressure because hybrid work and work-from-home culture has left a significant number of these spaces vacant ( news source ). Atlantic Union does not disclose its balance of office loans outstanding, but it provides the figure for commercial real estate loans (non-owner occupied) excluding multi-family and residential-commercial, which gives a ballpark figure for office loans. According to details given in the presentation, these CRE loans made up 28% of total loans at the end of 2022. This number is high enough to call for vigilance.
- Large balance of uninsured deposits. Uninsured deposits made up a hefty 41% of total deposits at the end of 2022, according to details given in the 10-K filing.
Downgrading to a Hold Rating
Considering the earnings outlook, I'm expecting the company to increase its dividend by $0.02 per share to $0.32 per share in the third quarter of 2023. The earnings and dividend estimates suggest a payout ratio of 37% for 2023, which is close to the last five-year average of 40%. Based on my dividend estimate, Atlantic Union Bankshares is offering a forward dividend yield of 3.6%.
I'm using the historical price-to-tangible book ("P/TB") and price-to-earnings ("P/E") multiples to value Atlantic Union. The stock has traded at an average P/TB ratio of 1.78x in the past, as shown below.
FY19 | FY20 | FY21 | FY22 | Average | |
T. Book Value per Share ($) | 19.6 | 19.6 | 20.2 | 16.6 | |
Average Market Price ($) | 35.6 | 26.2 | 37.1 | 35.6 | |
Historical P/TB | 1.81x | 1.33x | 1.84x | 2.14x | 1.78x |
Source: Company Financials, Yahoo Finance, Author's Estimates |
Multiplying the average P/TB multiple with the forecast tangible book value per share of $17.50 gives a target price of $31.10 for the end of 2023. This price target implies a 9.3% downside from the April 11 closing price. The following table shows the sensitivity of the target price to the P/TB ratio.
P/TB Multiple | 1.58x | 1.68x | 1.78x | 1.88x | 1.98x |
TBVPS - Dec 2023 ($) | 17.5 | 17.5 | 17.5 | 17.5 | 17.5 |
Target Price ($) | 27.6 | 29.4 | 31.1 | 32.8 | 34.6 |
Market Price ($) | 34.3 | 34.3 | 34.3 | 34.3 | 34.3 |
Upside/(Downside) | (19.5)% | (14.4)% | (9.3)% | (4.3)% | 0.8% |
Source: Author's Estimates |
The stock has traded at an average P/E ratio of around 12.9x in the past, as shown below.
FY19 | FY20 | FY21 | FY22 | Average | |
Earnings per Share ($) | 2.41 | 1.93 | 3.26 | 2.97 | |
Average Market Price ($) | 35.6 | 26.2 | 37.1 | 35.6 | |
Historical P/E | 14.8x | 13.5x | 11.4x | 12.0x | 12.9x |
Source: Company Financials, Yahoo Finance, Author's Estimates |
Multiplying the average P/E multiple with the forecast earnings per share of $3.24 gives a target price of $41.90 for the end of 2023. This price target implies a 22.2% upside from the April 11 closing price. The following table shows the sensitivity of the target price to the P/E ratio.
P/E Multiple | 10.9x | 11.9x | 12.9x | 13.9x | 14.9x |
EPS 2023 ($) | 3.24 | 3.24 | 3.24 | 3.24 | 3.24 |
Target Price ($) | 35.4 | 38.7 | 41.9 | 45.2 | 48.4 |
Market Price ($) | 34.3 | 34.3 | 34.3 | 34.3 | 34.3 |
Upside/(Downside) | 3.3% | 12.7% | 22.2% | 31.6% | 41.1% |
Source: Author's Estimates |
Equally weighting the target prices from the two valuation methods gives a combined target price of $36.50 , which implies a 6.4% upside from the current market price. Adding the forward dividend yield gives a total expected return of 10.0%.
In my last report, I adopted a buy rating with a target price of $39.70 for December 2023. My target price is lower now because I've reduced my earnings estimate and because the average valuation multiples have moved forward to lower levels. Considering the updated total expected return and the moderately-high risk level, I'm downgrading Atlantic Union Bankshares to a Hold rating.
For further details see:
Atlantic Union Bankshares: Earnings Outlook Remains Positive But Downgrading To Hold