The crisis that enveloped the banking sector earlier this year has been something of a gift to me. Although I have not purchased shares of any of the banks that did tumble, I began looking eagerly for some opportunity there. Many of the companies that did not fail have posted some sort of recovery in the months since then. But I have yet to see one that has posted a full recovery. One good example of this can be seen by looking at Westamerica Bancorporation (NASDAQ:WABC). At one point, the stock was down 35.6% compared to what it ended the month of February at. But fast-forward to today, and it’s down a more modest, but still significant, 11.1%. This initially piqued my interest, but upon digging deeper, I feel as though the enterprise is not the most solid opportunity amongst the list of firms that I could ultimately choose from. Because of this, I have decided to rate it a ‘hold’.
A story of strengths and weaknesses
According to the management team at Westamerica, the firm operates as a bank holding company that is headquartered out of California. Since its founding in 1972, the institution has grown to have a market capitalization of roughly $1.30 billion. That means it’s not insignificant in size, but it’s certainly not a behemoth either. Over the years, both organic growth and acquisitions allowed it to reach the point that it is at today. And that point is a diverse financial institution that operates 77 branch offices across 21 counties throughout northern and central California.
Through these locations, Westamerica provides customers with a wide variety of services. For instance, the company originates loans. On the commercial side, some of these loans are for companies to purchase other companies or assets needed in order to operate. The firm has experience in granting loans for commercial real estate, not only to acquire it but also to refinance it if needed. Real estate construction loans are made available to customers that seek to engage in real estate development. The firm also provides mortgages to the residential space, and it even provides consumer installment loans and other related services.
The loan portfolio actually has a history of declining over the years. The firm went from having $1.26 billion worth of loans in 2020 to having only $958.5 million in 2022. By the first quarter of this year, the loan portfolio had fallen further to $938.6 million. But the decline didn’t stop there. By the end of the second quarter, loans had dropped to $919.6 million. This may seem odd. In fact, it is definitely uncommon compared to many of the other smaller banks that I have analyzed this year. However, this is not capital leaving the company. Instead, management is parking it largely in the form of other securities.
From 2020 through 2022, securities that were classified as being held to maturity rose from $515.6 million to $915.9 million. By the end of the second quarter, they dropped slightly to $900.4 million. A similar trend can be seen when looking at securities that are classified as being available for sale. These are securities that the company does not necessarily intend to hold for more than a 12-month window. The overall history of balances for these securities has been rather lumpy. But the company did experience an uptrend from $4.06 billion in 2020 to $4.33 billion last year. This number did drop over the last two quarters, eventually hitting $4.05 billion in the second quarter.
It would be helpful for investors to know what these securities are largely in the form of. The largest chunk, about $1.90 billion in all, is in the form of corporate securities. This is on top of the $686.3 million that falls under the held to maturity designation. These securities are really just corporate bonds that the company is banking on. Collateralized loan obligations account for the second-largest grouping at $1.51 billion. No other collection of these debt securities could be considered large. The largest would be the $291.4 million that’s in the form of debt from government-sponsored entities. And this is followed up closely by the $259.2 million in the form of agency residential mortgage-backed securities.
Perhaps the most important thing right now is the deposit picture for the company. After all, it’s the amount of uninsured deposits that caused such a scare in the space earlier this year. Deposits actually spiked from $5.69 billion in 2020 to $6.41 billion in 2021. This number dropped to $6.23 billion last year and has been on the decline ever since. From the first quarter of this year to the second quarter, deposits fell $193.4 million from roughly $5.90 billion to $5.71 billion. If this isn’t worrisome enough, it’s also worth noting that $2.61 billion, or about 45.8%, of the company’s deposits are uninsured. That’s quite high compared to many of the other companies that I have seen.
Another issue that I am not terribly fond of is that the book value per share has struggled in recent years. From 2020 to 2022, book value has dropped from $31.51 to $22.37. We did see an increase so far this year, with the metric climbing to $24.13 in the first quarter and then to $24.46 in the second. Even though this overall trend has been undesirable in recent years, the one really good thing that we can say is that the company has very little debt. Total debt on its books today is about $138 million. So in that respect, the firm at least is not a terribly risky prospect.
The last thing I would like to touch on is the path that revenue and profitability have taken over time. As you can see in the chart above, net interest income at the bank grew from $159.7 million in 2020 to $219.8 million in 2022. Even this year, the picture has continued to improve. The metric has grown from $90.1 million in the first half of 2022 to $140.6 million in the first half of this year. Net interest income has grown over time, but non-interest income has remained mostly flat as the aforementioned chart shows. But the good news is that this did not stop net income for the company from growing. Last year, it totaled $122 million. That’s up from the $80.4 million two years earlier. And so far this year, the $80.7 million that the company generated represents a near doubling compared to the $47.9 million report at the same time in 2022.
This makes pricing the company rather difficult. If we use data from 2022, we find that the company is trading at a price to earnings multiple of 10.7. That is certainly not bad, but it’s not the best that I have seen. Some of the players that I have looked at are trading in multiples ranging between about 6 and 9. And many of those have uninsured deposit exposure that is lower than what Westamerica sports. If we assume that the rest of this year will look like the first half of the year, though, net income might come in as high as $205.5 million. That would imply a much lower price to earnings multiple of about 6.3.
Truth be told, some companies can be rather challenging for me to arrive at a consensus on. This is one of those cases. If financial performance continues for the second half of this year like it did in the first half, shares look fundamentally attractive. The institution also has a robust portfolio of loans and debt securities on its books. Having said that, there is no guarantee about what the future holds, and I don’t like the fact that deposits continued to fall through the second quarter. This picture is made worse by the fact that uninsured deposit exposure is quite high and that the company has a history of a book value per share that has struggled. At the end of the day, when I have difficulty deciding whether a prospect is attractive or not, I always prefer to err on the side of caution. So out of an abundance of caution, I have no choice but to rate the business a ‘hold’ until we see some additional data come through.