Pricing bank stocks such as AMAL is particularly challenging. Given that these companies adhere to a different set of rules relative to other companies, their cash flows should also be valued differently. For example, banks are required to hold more capital to reduce the risk to depositors. Emphasizing data points like book values, in addition to the return and cost of equity, may be useful for calculating AMAL’s value. Today I’ll take you through how to value AMAL in a relatively accurate and easy way.
What Model Should You Use?
There are two facets to consider: regulation and type of assets. AMAL operates in United States which has stringent financial regulations. Furthermore, banks generally don’t possess significant portions of physical assets on their books. Excess Returns overcome some of these issues. Firstly, it doesn’t focus on factors such as capex and depreciation – relevant for tangible asset firms – but rather emphasize forecasting stable earnings and book values.
Deriving AMAL’s Intrinsic Value
The key assumption for this model is that equity value is how much the firm can earn, over and above its cost of equity, given the level of equity it has in the company at the moment. The returns in excess of cost of equity is called excess returns:
Excess Return Per Share = (Stable Return On Equity – Cost Of Equity) (Book Value Of Equity Per Share)
= (0.11% – 11%) x $14.62 = $0.012
We use this value to calculate the terminal value of the company, which is how much we expect the company to continue to earn every year, forever. This is a common component of discounted cash flow models:
Terminal Value Per Share = Excess Return Per Share / (Cost of Equity – Expected Growth Rate)
= $0.012 / (11% – 2.9%) = $0.15
Combining these components gives us AMAL’s intrinsic value per share:
Value Per Share = Book Value of Equity Per Share + Terminal Value Per Share
= $14.62 + $0.15 = $14.77
This results in an intrinsic value of $14.77. Compared to the current share price of US$17.41, AMAL is , at this time, fairly priced by the market. This means there’s no real upside in buying AMAL at its current price. Valuation is only one side of the coin when you’re looking to invest, or sell, AMAL. Analyzing fundamental factors are equally important when it comes to determining if AMAL has a place in your holdings.
For banks, there are three key aspects you should look at:
- Financial health: Does it have a healthy balance sheet? Take a look at our free bank analysis with six simple checks on things like bad loans and customer deposits.
- Future earnings: What does the market think of AMAL going forward? Our analyst growth expectation chart helps visualize AMAL’s growth potential over the upcoming years.
- Dividends: Most people buy financial stocks for their healthy and stable dividends. Check out whether AMAL is a dividend Rockstar with our historical and future dividend analysis.
For more details and sources, take a look at our full calculation on AMAL here.
To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at email@example.com.