Canadian Western Bank (TSX: CWB) is one of Canada’s smaller banks with a market capitalization of $3.5 billion. This is substantially below the more than $100 billion in capitalization of globally ranked Canadian banks like Royal Bank of Canada (TSX: RY)(NYSE: RY) and Toronto-Dominion Bank (TSX: TD)(NYSE: TD). However, despite its small size, its share price has performed better than any of the major and mid-sized Canadian banks measured over almost any time period for the past 10 years.
Canadian Western Bank, headquartered in Edmonton, provides a full range of services including banking, insurance, wealth management, and trust services. Its focus is on mid-market commercial enterprises in western Canada, real estate and construction financing, equipment financing, and energy lending. The bank’s profit comes mostly from its lending activities, followed by its trust and insurance activities.
Why has its share price performed so well?
The total return on an investment in Canadian Western Bank was 161% over the past five years. In comparison, Royal Bank of Canada had a total return of 86% over the past five years, while Toronto-Dominion Bank returned 110%.
A closer look at the key performance drivers of the bank’s profitability over this period reveal considerable growth in loans and deposits, net interest income, and sound cost and credit management. The bank’s key performance indicators are summarized below — please note that the reference to a five-year period includes four historical years and consensus estimates for the 2014 fiscal year.
- Deposits and loans are expected to increase by 73% and 81% respectively over this five-year period. This is considerably better than the expected growth of Royal Bank of Canada, while loan growth was about the same as achieved by Toronto-Dominion Bank.
- Net interest margins expanded over the five-year period, with an expected average of 2.59%, resulting in expected growth in net interest income of more than 100%.
- Expense ratios average around 46.5%, which is superior to the ratios achieved by Royal Bank of Canada or Toronto-Dominion Bank.
- The provision for credit losses as a portion of average loans is averaging less than 0.2%, which is considerably better than the ratios achieved by either of the other two banks.
- Net income for Canadian Western Bank is expected to grow to $220 million by the end of the 2014 financial year, which would be more than double the profit achieved in 2009. However, as the result of a considerable increase in the number of shares issued, earnings per share is expected to be just 84%.
- The dividend per share is expected to increase by 77% over the five-year period, considerably ahead of both Royal Bank of Canada and Toronto-Dominion Bank.
Risky concentrated exposure to real estate
Canadian Western Bank holds considerable exposure to real estate projects and commercial and personal mortgages, mostly with counterparties in British Columbia and Alberta.
Given the realities of important underlying economic drivers of the two provinces, namely volatile commodity and energy prices in Alberta and perceived rich real estate valuations in Vancouver, this must be a considered a key risk for the bank.
Q3 results will provide further direction
The company is expected to announce Q3 results on the 27th of August. The consensus expectation is for EPS of $0.70, which would be 17% higher than a year ago. Results for the first six months of the year were strong, with profits per share up by 16% and the dividend per share up by 12%. The bank was performing well in the first half of the year on all key performance measures.
Canadian Western Bank has stated that its objectives are to grow EPS by 12%-16% in 2014, increase loans by 10%-12%, and achieve a return on equity of 14%-15%. Given the results of the first two quarters, the company is on track to meet these objectives.
A higher valuation than its peers
Given the very good performance of the bank’s share price over the past few years, its stock valuation is now at a considerable premium to the major listed banks, with a 12-month forward P/E ratio of 14.4 times and a dividend yield of 1.9%.
Despite its strong growth profile, the bank’s premium valuation and concentrated risk exposures indicate that better value may be available elsewhere.
