As a small-cap bank stock with a market capitalisation of US$280m, The First Bancorp, Inc.’s (NASDAQ:FNLC) risk and profitability are largely determined by the underlying economic growth of the US regions in which it operates. Since banks make money by reinvesting its customers’ deposits in the form of loans, strong economic growth will drive the level of savings deposits and demand for loans, directly impacting the cash flows of those banks. After the Financial Crisis in 2008, a set of reforms called Basel III was created with the purpose of strengthening regulation, risk management and supervision in the banking sector. These reforms target bank level regulation and aims to improve the banking sector’s ability to absorb shocks arising from economic stress which could expose financial institutions to vulnerabilities. Its financial position may weaken in an adverse macro event such as political instability which is why it is crucial to understand how well the bank manages its risks. Strong management of leverage and liquidity could place the bank in a protected position at the face of macro headwinds. We can gauge First Bancorp’s risk-taking behaviour by analysing three metrics for leverage and liquidity which I will take you through now.
Why Does FNLC’s Leverage Matter?A low level of leverage subjects a bank to less risk and enhances its ability to pay back its debtors. Leverage can be thought of as the amount of assets a bank owns relative to its shareholders’ funds. Though banks are required to have a certain level of buffer to meet its capital requirements, First Bancorp’s leverage level of 10.73x is significantly below the appropriate ceiling of 20x. This means the bank has a sensibly high level of equity compared to the level of debt it has taken on to maintain operations which places it in a strong position to pay back its debt in unforeseen circumstances. Should the bank need to increase its debt levels to meet capital requirements, it will have abundant headroom to do so.
How Should We Measure FNLC’s Liquidity?Due to its illiquid nature, loans are an important asset class we should learn more about. Generally, they should make up less than 70% of total assets, which is consistent with First Bancorp’s state given its ratio of 62%. At this level of loan, the bank has preserved a sensible level between maintaining liquidity and generating interest income from the loan.
Does FNLC Have Liquidity Mismatch?FNLC profits by lending out its customers’ deposits as loans and charge an interest on the principle. These loans may be fixed term and often cannot be readily realized, however, customer deposits are liabilities which must be repaid on-demand and in short notice. The discrepancy between loan assets and deposit liabilities threatens the bank’s financial position. If an adverse event occurs, it may not be well-placed to repay its depositors immediately. Since First Bancorp’s loan to deposit ratio of 81% is within the sensible margin, below than the appropriate maximum of 90%, this level positions the bank cautiously in terms of liquidity as it has not disproportionately lent out its deposits and has retained an apt level of deposits.
First Bancorp passes all of our liquidity and leverage checks which shows it is prudent in managing those factors. This gives us confidence in the operational side of the business, an important aspect to consider before investing in the stock. The bank’s favourable liquidity and leverage position exposes it to less risk when it comes to repaying financial obligations, in particular, in the case of an adverse macro event. Keep in mind that a stock investment requires research on more than just its operational side. There are three important aspects you should further research:
- Future Outlook: What are well-informed industry analysts predicting for FNLC’s future growth? Take a look at our free research report of analyst consensus for FNLC’s outlook.
- Valuation: What is FNLC worth today? Has the future growth potential already been factored into the price? The intrinsic value infographic in our free research report helps visualize whether FNLC is currently mispriced by the market.
- Other High-Performing Stocks: Are there other stocks that provide better prospects with proven track records? Explore our free list of these great stocks 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.
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