Tuesday, August 19, 2014

Analysis of First Republic Bank



Please read the disclaimer here:http://greedydragoninvestment.blogspot.com/p/about-greedy-dragon.html. Enjoy the article, bitches!


I finally got around to playing GTA V a few days ago. Shit! Playing that game makes me want to fuck shit up and make some fucking money. But instead of robbing a jewelry store with a carbine rifle, I will make my money by reading annual reports and crunching numbers with my Hewlett-Packard 12C financial calculator. But you’re not here to listen to me talk about video games, you’re here to read about my stock analysis (or at least that’s what I think you’re here for). I recently bought some shares in First Republic Bank at USD 46.19 per share. If banks were thought of as fashion brands, First Republic would be the Prada of banks due to its business and high net worth clientele. This is evidenced by the larger than average deposit accounts First Republic is able to attract. The bank had 275,000 deposit accounts as compared to the US industry average of 1,776,000 deposit accounts for banks with total assets of $35-$65 billion.  I think First Republic is a high quality bank and that its shares offered value when I bought it.


Update on the Greedy Dragon portfolio: I recently sold my stake in Monster Beverage and reduced my stake in Mercadolibre to raise cash for some unexpected expenses. Unfortunately for me, I sold Monster just a few days before the stock soared 30% when Coca-Cola announced that it’s taking a stake in the company. I obviously feel like a fucking moron, but that’s life. I’ll just have to deal with it.


For the quarter ended June 30, 2014, First Republic achieved annualized return on average assets and return on average equity (ROE) of 0.98% and 9.77% respectively. A ROE of 9.77% may not exactly be great, but it’s still pretty decent if you take into account the low credit risk exposure of the bank’s loan portfolio. According to the company’s investor presentation dated August, 2014, charge-offs have averaged only 0.12% per year over the past 10.5 years; the net charge-offs averaged 0.43% per year over the past 10.25 years for the top 50 U.S. banks by asset size. As at June 30, 2014, non-performing assets to total assets ratio was 0.11%. The company’s low credit risk exposure is a result of its prudent loan underwriting standards. The loan-to-value ratios required by the bank (at origination) as at June 30, 2014 was 60% for single family, 55% for HELOC, 57% for multifamily, 53% for commercial real estate and 55% for construction loans.


Note: I calculated the bank’s ROE and ROA using core net income (net income excluding the impact of purchase accounting) instead of conventional net income.


First Republic is expected to incur between 6.5% to 9.0% higher noninterest expenses to invest in its regulatory, audit and compliance infrastructure. These investments are necessary to meet the higher regulatory requirements and standards associated with institutions that have over $50 billion in assets. As at June 30, 2014, the bank had total assets of $46.2 billion. The bank expects its four quarter ending moving average assets will reach the $50 billion mark about the end of 2015. The higher expenses should put pressure on First Republic’s ROE in the short-term. However, I think profits will continue to grow and ROE will increase over the long-term as the bank continues to increase its loan book (by attracting more deposits to fund the loans) and interest rates eventually rise. 


First republic has a decent capital buffer to help it absorb losses. As at June 30, 2014, First Republic had at a leverage ratio, tier 1 capital to risk-weighted assets ratio and total capital to risk-weighted assets ratio of 9.73%, 13.74% and 14.35% respectively. To be considered well-capitalized, a bank needs to have ratios of 5.00%, 6.00% and 10.00% respectively.


First Republic has been expanding at a pretty impressive rate. For the 4-year period of 2010-2013, the bank increased deposits and wealth management assets under management at a compounded annual rate of 20.41% and 23.64% respectively. Deposits and wealth management assets under management increased by 11.60% and 17% respectively in the first half of 2014.


Note: I excluded certificates of deposit from my calculations of deposit growth.


Assuming an extra $20 million in regulatory compliance expenses, First Republic’s core net income would drop to $96.28 million a quarter (that’s if nothing else changes from the second quarter of 2014). Warning: My calculations of First Republic’s core net income after adjusting for the increase in regulatory compliance expenses is likely to be off from the actual figures in the future.  After the preferred shares get their cut, annualized diluted earnings per share would be around $2.32 giving the stock a P/E ratio of 19.90 at the price ($46.19) I bought it.


I think that the price I paid for First Republic’s stock is reasonable as it has good growth prospects. I think I will be rewarded with pretty decent returns for sitting on this stock for the long-term. Thank you for reading. Take care and stay rational.

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