2023-08-06 02:07:23 ET
Summary
- As the margin has already dipped by more than I expected, I’ve reduced my margin estimate, and consequently the earnings estimate for 2023.
- The risk level appears subdued because unrealized losses are very low and uninsured deposits are well covered by the available liquidity.
- The December 2023 target price suggests a high upside from the current market price. Further, BWFG is offering a modest dividend yield.
Earnings of Bankwell Financial Group, Inc. (BWFG) will most probably dip this year because of a lower net interest margin and higher operating expenses. On the other hand, loan growth will offer some support to the bottom line. Overall, I’m expecting the company to report earnings of $4.45 per share for 2023, down 7% year-over-year. Compared to my last report on the company, I’ve reduced my earnings estimate because I’ve reduced my margin estimate. The year-end target price suggests a high upside from the current market price. Therefore, I’m maintaining a buy rating on Bankwell Financial Group.
Further Decline in the Margin Anticipated
Bankwell Financial Group’s net interest margin has declined for the last three consecutive quarters. The reason is a surge in the cost of funds, whose growth far outpaced the growth of asset yields. Around 45% of the deposits have variable rates; therefore, the cost has increased significantly as market interest rates have risen. Additionally, time deposits make up around 55% of total deposits, with an overwhelming majority of them maturing within a year. As these time deposits matured and were replaced by newer, higher-rate time deposits, the average cost of deposits surged.
Going forward, the funding cost will most probably continue to climb partly because of upcoming time deposit maturities. According to details given in the first quarter’s 10-Q filing (2Q’s 10-Q filing hasn’t been released yet), around 68% of total deposits will mature in 2023. New time deposits will naturally carry higher rates compared to the outgoing deposits because of the ongoing up-rate cycle. I’m expecting a further 25 basis points hike in the fed funds rate in the remainder of this year.
On the plus side, loan additions will lift the margin because new loans will originate at higher rates compared to the portfolio’s average yield. Rates on new loans are already much higher than the average portfolio yield. As mentioned in the earnings release , the average yield on loans originated thus far in 2023 was 7.38% while the average loan yield for the same period stood at 5.95%.
Considering these factors, I’m expecting the margin to dip by 15 basis points in the last two quarters of 2023, leading to a full-year reduction of 78 basis points. In my last report, I mentioned that I was expecting the margin to dip by 50 basis points in 2023. I’ve reduced my margin estimate because the margin has already declined by 63 basis points during the first half of the year.
Regional Economies to Support Loan Growth
Loan growth continued to decelerate in the second quarter of 2023. The portfolio grew by only 0.4% during the quarter, which is lower than my previous expectation. Although I had expected a slowdown, I hadn’t expected growth to become almost negligible.
Going forward, growth will likely improve from the second quarter’s level because the regional economies are quite robust, as shown by unemployment rates. More than half the commercial real estate loans are located in Connecticut and New York. Other geographical areas include Florida, New Jersey, Ohio, Texas, and Pennsylvania. As there is a lot of diversity in Bankwell’s portfolio, it makes sense to consider the national unemployment rate in concert with the unemployment rates for Connecticut and New York. As shown below, all three trendlines are currently at a good level compared to their respective histories.
Overall, I’m expecting the loan portfolio to grow by 1.50% in each of the last two remaining quarters of 2023. The following table shows my balance sheet estimates.
Financial Position | FY18 | FY19 | FY20 | FY21 | FY22 | FY23E |
Net Loans | 1,587 | 1,589 | 1,602 | 1,875 | 2,646 | 2,819 |
Growth of Net Loans | 4.3% | 0.1% | 0.8% | 17.1% | 41.1% | 6.5% |
Other Earning Assets | 119 | 101 | 111 | 161 | 132 | 176 |
Deposits | 1,502 | 1,492 | 1,827 | 2,124 | 2,801 | 2,873 |
Borrowings and Sub-Debt | 185 | 175 | 200 | 84 | 159 | 162 |
Common equity | 174 | 182 | 177 | 202 | 238 | 262 |
Book Value Per Share ($) | 22.4 | 23.4 | 22.8 | 26.0 | 31.2 | 34.4 |
Tangible BVPS ($) | 22.1 | 23.1 | 22.5 | 25.7 | 30.9 | 34.1 |
Source: SEC Filings, Earnings Releases, Author's Estimates(In USD million unless otherwise specified) |
Earnings Likely to Dip Because of Margin Contraction, Higher Expenses
I’m expecting earnings to dip this year compared to last year as loan growth will likely not be high enough to counter the downward pressures on the bottom line. These pressures include margin contraction as well as an inflation-driven hike in operating expenses. As inflation is still somewhat high despite the recent disinflation, I’m expecting the efficiency ratio (non-interest expenses divided by total revenues) to be higher than last year.
Overall, I’m expecting Bankwell Financial to report earnings of $4.45 per share for 2023, down 7% year-over-year. The following table shows my income statement estimates.
Income Statement | FY18 | FY19 | FY20 | FY21 | FY22 | FY23E |
Net interest income | 56 | 54 | 55 | 68 | 95 | 97 |
Provision for loan losses | 3 | 0 | 8 | (0) | 5 | 6 |
Non-interest income | 4 | 5 | 3 | 6 | 3 | 6 |
Non-interest expense | 36 | 36 | 43 | 40 | 44 | 52 |
Net income - Common Sh. | 17 | 18 | 6 | 26 | 37 | 34 |
EPS - Diluted ($) | 2.21 | 2.31 | 0.75 | 3.36 | 4.79 | 4.45 |
Source: SEC Filings, Earnings Releases, Author's Estimates(In USD million unless otherwise specified) |
In my last report, I estimated earnings of $4.59 per share for 2023. My updated earnings estimate is slightly below my previous estimate mostly because I’ve reduced my margin estimate.
Risks Appear Subdued
Bankwell Financial’s risk level appears low because of the following two factors.
- Unrealized losses on the available-for-sale securities portfolio amounted to just $7.6 million, which is only 3% of the total equity balance.
- Uninsured deposits made up 25% of total deposits, as mentioned in the earnings presentation . Although this proportion is quite large, I’m not worried because of immediately available liquidity amounting to $1.7 billion. This liquidity provides more than 2x coverage of uninsured deposits.
In my opinion, the only remarkable source of risk is the office loan segment, which is 10.3% of total commercial real estate (“CRE”) loans or 7% of total loans. Although it’s mentioned in the presentation that the entire portfolio is current (meaning they haven’t missed payments), risks remain because of the hybrid and work-from-home culture.
High Total Expected Return Justifies a Buy Rating
Bankwell Financial is offering a dividend yield of 2.9% at the current quarterly dividend rate of $0.20 per share. The earnings and dividend estimates suggest a payout ratio of 18% for 2023, which is close to the five-year average (excluding 2020) of 20%. Therefore, the dividend appears secure even though I’m expecting an earnings dip for the year.
I’m using the peer average price-to-tangible book (“P/TB”) and price-to-earnings (“P/E”) multiples to value Bankwell Financial. Peers are trading at an average P/TB ratio of 0.99 and an average P/E ratio of 8.3, as shown below.
BWFG | BCBP | CVLY | USCB | VBNK | Peer Average | |
P/E ("ttm") | 6.1 | 5.1 | 7.2 | 11.0 | 10.0 | 8.3 |
P/B ("ttm") | 0.85 | 0.75 | 1.11 | 1.18 | 0.86 | 0.98 |
P/TB ("ttm") | 0.85 | 0.76 | 1.13 | 1.18 | 0.89 | 0.99 |
Source: Seeking Alpha |
Multiplying the average P/TB multiple with the forecast tangible book value per share of $34.1 gives a target price of $33.7 for the end of 2023. This price target implies a 21.5% upside from the August 4 closing price. The following table shows the sensitivity of the target price to the P/TB ratio.
P/TB Multiple | 0.79x | 0.89x | 0.99x | 1.09x | 1.19x |
TBVPS - Dec 2023 ($) | 34.1 | 34.1 | 34.1 | 34.1 | 34.1 |
Target Price ($) | 26.9 | 30.3 | 33.7 | 37.1 | 40.5 |
Market Price ($) | 27.8 | 27.8 | 27.8 | 27.8 | 27.8 |
Upside/(Downside) | (3.1)% | 9.2% | 21.5% | 33.7% | 46.0% |
Source: Author's Estimates |
Multiplying the average P/E multiple with the forecast earnings per share of $4.45 gives a target price of $37.0 for the end of 2023. This price target implies a 33.4% upside from the August 4 closing price. The following table shows the sensitivity of the target price to the P/E ratio.
P/E Multiple | 6.3x | 7.3x | 8.3x | 9.3x | 10.3x |
EPS 2023 ($) | 4.45 | 4.45 | 4.45 | 4.45 | 4.45 |
Target Price ($) | 28.1 | 32.6 | 37.0 | 41.5 | 45.9 |
Market Price ($) | 27.8 | 27.8 | 27.8 | 27.8 | 27.8 |
Upside/(Downside) | 1.4% | 17.4% | 33.4% | 49.5% | 65.5% |
Source: Author's Estimates |
Equally weighting the target prices from the two valuation methods gives a combined target price of $35.4 , which implies a 27.4% upside from the current market price. Adding the forward dividend yield gives a total expected return of 30.3%. Hence, I’m maintaining a buy rating on Bankwell Financial Group.
For further details see:
Bankwell Financial Group: Reducing The Earnings Estimate But Maintaining A Buy Rating