2023-09-21 07:56:25 ET
Summary
- Axos Financial raised diluted EPS by 52% last quarter due to rising interest rates.
- The company operates as an exclusively online bank, offering convenient digital banking solutions.
- While the company has strong financial metrics, the lack of a dividend or share buybacks makes it less appealing to investors.
Introduction
The rising interest rates seem to have had a clear positive effect on Axos Financial, Inc. ( AX ) which managed to raise the diluted EPS by an impressive 52% last quarter. The company saw like most regional banks a pretty hefty drop earlier this year as the industry experienced some turmoil. The share price has however been trending upwards very nicely over the last few months, but doesn't still in my opinion extrude an overvaluation. The company trades at an earnings discount compared to the sector median.
What I think investors would want from AX is a dividend. The company does not currently have one and that does make it quite a negative in my opinion as with most banks they are viewed as dividend income opportunities. I like the share price and valuation of the company, but I fear I am not getting the most possible value right now without a dividend or a strong history of buying back shares. As a result, I will be rating it a hold.
Company Structure
AX distinguishes itself as an exclusively online bank, setting it apart from traditional brick-and-mortar banking institutions. This digital approach lets AX function with a streamlined cost structure, affording the bank a range of competitive benefits. One of the key advantages lies in their capacity to provide comprehensive banking services through online channels exclusively. This modern, technology-driven model not only enhances efficiency but also positions AX to cater to the evolving needs of contemporary customers who seek convenient, digital banking solutions. We saw this approach work out very well in the last quarter as the deposits rose by 9.2% for the company. A continuation like this is likely to continue, sending the share price even higher I think.
Company Overview (Investor Presentation)
A distinctive characteristic of AX is its reliance on asset-backed loans, constituting 95% of its lending portfolio. In essence, nearly all their loans are supported by a first-lien position on tangible assets, ensuring a layer of security for their lending activities. This strategic approach significantly mitigates risk when compared to other financial institutions that may extend riskier loans without the backing of specific assets. By focusing on asset-backed loans, AX maintains a prudent and relatively low-risk lending portfolio, contributing to the stability of its operations and financial health.
Bank Performance (Investor Presentation)
Looking at some of the metrics for the company, we can see they have managed to very well outpace several peers. On an efficiency ratio I think AX looks great, under 50% is not easy to come by and AX even beats this out. The ROE is another important metric for banks as it measures their capabilities of leveraging their equity base into stronger earnings, which in most cases gets passed on to shareholders. For AX the ROE is over 15% which makes it another solid metric where AX is a clear performer. What I would like to see though is this being translated into buying back shares or starting up a dividend. The company certainly has the margins to support it and with a hypothetical payout ratio of 30% AX would have a yield of around 3.8% right now. At that point, I would argue that AX looks quite appealing to buy into if the share price remains within the same discount range it does currently, around 15% based on earnings.
Earnings Transcript
From the last earnings call by the company, I think there are some worthwhile comments to bring up and include here. The CEO of AX Greg Garrabrants had the following to say.
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"Our book value per share was $32.53 on June 30, 2023, up 18% from June 30, 2022. The highlights this quarter include the following: net interesting income increased by 2.4% linked quarter and 23.2% year-over-year to $203.8 million. We continue to generate strong net interest income growth through a combination of loan growth and solid net interest margin. For the fiscal year ending June 30, 2023, we grew net interest income by $176 million or 29%. Ending net loans for investment balance was $16.6 billion, up 3.9% linked quarter, or 15.7% annualized".
Seeing the company able to raise the book value this quickly is quite impressive, and I think showcases the strength of the business model and how AX could be a viable long-term position. With the book value at $32 AX now trades at a premium of around 25% to it. Given the volatility in the market still, I see a correction as a possibility and that could potentially open up an opportunity for starting a position. If we reach the low levels seen back in March, then AX would more or less trade at the book value, which would indicate little premium to pay and all the more value instead.
Valuation & Comparison
P/E (Seeking Alpha)
Looking at the earnings of AX, I think they have been very impressive, and the market seems to be anticipating some more growth. The higher EPS has come from the increase in interest rates, which has been positively affecting AX very much. My views on the US interest rates are that for the better part of 2024, they will remain quite high until potentially going down by the end of the year. That would likely send the EPS down for AX if they are not able to massively raise the customer and deposit base of the company. I think this risk is perhaps accounted for in the current price, and that's why I also think a hold rating is the most sustainable right now, especially when AX doesn't have a dividend yield or a strong buyback history.
Risk Associated
An important concern that warrants continuous monitoring is the evolving sensitivity of AX's loan portfolio over successive quarters and its capacity to capitalize on elevated interest rates. Additionally, a critical aspect of observation pertains to the performance of AX's latest consumer app iteration, gauging its effectiveness in engaging and retaining customers, with the ultimate objective of driving increased revenue for the company. This proactive approach to risk assessment and revenue generation will be instrumental in shaping AX's long-term prospects and competitiveness in the financial services industry.
Cash Sorting (Investor Presentation)
The prospect of higher interest rates brings with it the possibility of elevated delinquency rates as well. If AX experiences an uptick in delinquencies, it has the potential to exert downward pressure on the company's share price, thereby impacting investor sentiment and financial performance. Thus, closely monitoring and managing delinquency risk becomes paramount in navigating the evolving interest rate landscape and safeguarding the company's market standing.
Investor Takeaway
The share price for AX has been trending steadily upwards as the last report showed success in the bottom line and the rising interest rates are affecting the business. I think that, going forward, AX will be able to provide a decent return, but without any dividend, I don't think the actual value that investors are getting right now is all that appealing. As a result, I will be keeping AX a hold for now.
For further details see:
Axos Financial: Looking For More Than Just Good EPS Growth