Fulton Financial: Prospects for Margin and Lending Growth Remain Optimistic

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helen89

Profit of Fulton Financial Corporation (NASDAQ:FULT) will likely be stable this year before growing strongly next year. Mid-single-digit loan growth will likely support earnings in the coming quarters. In addition, the large balance of variable rate loans will allow the margin to benefit quickly of the rising rate environment. Overall, I expect Fulton Financial to report earnings of $1.66 per share for 2022 and $1.88 per share for 2023. Compared to my last report on the business, I slightly increased my earnings estimate for next year, as I increased my margin estimate. Next year’s target price suggests a significant upside from the current market price. Therefore, I maintain a buy rating on Fulton Financial Corporation.

High borrowing costs, liquidations to pressure loan growth

Fulton Financial Corporation’s loan book grew 4% in Q3 2022 (16.2% annualized), in line with expectations. The growth was primarily attributed to the acquisition of Prudential Bancorp. Loan growth is likely to return to a mid-single-digit annualized range in the coming quarters as high borrowing costs reduce demand for credit. Additionally, management mentioned on the conference call that residential loan growth will slow significantly going forward, as application volumes have already fallen 35% QoQ during the third quarter of 2022.

Also, some of Prudential Bancorp’s borrowers may repay and leave post-acquisition, which is only natural. Liquidations, repayments, and rationalization of the acquired loan portfolio occur quite frequently in M&A transactions.

Since more than 60% of total lending is in commercial real estate and the commercial and industrial segments, the PMI and coincident indices are appropriate indicators of credit demand. As shown below, the PMI indices are in expansionary territory, which bodes well for loan growth.

Chart
Data by YCharts

Moreover, the coincident index shows that the pace of economic activity is satisfactory.

Chart
Data by YCharts

Given these factors, I expect the loan portfolio to grow 2% in the last quarter of 2022 and 4% in 2023. Compared to my last report on Fulton Financial, I have no changed my loan growth estimates a lot.

Meanwhile, I expect other balance sheet items to grow mostly in line with lending. The following table shows my balance sheet estimates.

EX18 FY19 FY20 FY21 FY22E FY23E
Financial situation
Net loans 16,004 16,674 18,623 18,076 19,817 20,622
Net loan growth 2.6% 4.2% 11.7% (2.9)% 9.6% 4.1%
Other productive assets 3,056 3,291 5,244 5,728 4,426 4,606
Deposits 16,376 17,394 20,839 21,573 21,590 22,467
Loans and sub-debts 1,747 1,765 1,926 1,038 1,439 1,497
Common Equity 2,248 2,342 2,424 2,520 2,217 2,413
Book value per share ($) 12.7 14.0 14.9 15.4 13.1 14.3
Tangible BVPS ($) 9.7 10.8 11.6 12.1 9.8 11.0

Source: SEC Filings, Author’s Estimates

(In millions of dollars, unless otherwise indicated)

Margin expansion to slow after Q3 jump

The net interest margin jumped 50 basis points in the third quarter of 2022, which was above my expectations. It was also higher than implied by the results of management’s interest rate sensitivity analysis presented in the second quarter 10-Q filing. Based on management’s analysis, a 200 basis point increase in interest rates could increase net interest income by 11.4% year-over-year.

Part of the extraordinary margin expansion during the third quarter was attributable to management’s ability to contain deposit costs as market interest rates rose. This restriction is unsustainable unless Fulton Financial wants to lose its depositary customers to other banks. Therefore, the cost of deposits is expected to rise with a twang in the fourth quarter of 2022. As mentioned in the conference call, management also expects to see higher deposit betas in the coming quarters compared to what has been observed so far in the current rate. cycle.

The return on the loan will offset the effect of the rising cost of deposits on the margin. About $8 billion in loans were variable at the end of September 2022, out of a total loan balance of $19.5 billion, as mentioned on the conference call. As nearly half of the portfolio is made up of variable rate loans, the portfolio’s rate sensitivity should be high over the coming quarters. Additionally, an additional $4.9 billion of loans are adjustable (however, there is insufficient information on the repricing timeline for these loans).

Margin will also benefit from loan additions. The blended yield on new assets is currently around 5%, as mentioned on the conference call. This is much higher than the average portfolio return of 4.21% in the third quarter, as mentioned in the earnings release.

Given these factors, I expect the margin to increase by five basis points in this fourth quarter of 2022 and another five basis points in the first quarter of 2023 before leveling off.

Expect flat revenue for 2022, decent growth for 2023

Expected loan growth and spread expansion will support earnings through the end of 2023. On the other hand, inflation-driven operating expense growth will limit earnings growth. In addition, there are still merger-related expenses because, as mentioned in the conference call, Prudential Bancorp’s system conversion is scheduled for November 2022.

In the meantime, I expect loan loss provisioning to return to normal levels this quarter. I expect the net provision charge to be approximately 0.21% of total loans (annualized) each quarter through the end of 2023, which is in line with the 2017-2019 average.

Overall, I expect Fulton Financial to report earnings of $1.66 per share for 2022, up just 2% year-over-year. For 2023, I expect earnings to grow 13% to $1.88 per share. The following table shows my income statement estimates.

EX18 FY19 FY20 FY21 FY22E FY23E
income statement
Net interest income 630 648 629 664 779 932
Allowance for loan losses 47 33 77 (15) 25 44
Non-interest income 196 216 229 274 229 230
Non-interest charges 546 568 579 618 637 681
Net income – Common Sh. 208 226 176 265 275 318
BPA – Diluted ($) 1.18 1.35 1.08 1.62 1.66 1.88

Source: SEC filings, earnings releases, author’s estimates

(In millions of dollars, unless otherwise indicated)

My updated earnings estimate for 2022 is almost unchanged from the earnings estimate of $1.68 per share I gave in my last report on Fulton Financial. However, I increased my earnings estimate for 2023 because I increased my margin estimate following the surprising increase in margins in the third quarter.

Actual earnings may differ materially from estimates due to the risks and uncertainties associated with inflation and, therefore, the timing and magnitude of interest rate increases. Also, a deeper or longer than expected recession may increase the expected loan loss provisioning beyond my estimates.

Next Year’s Target Price Suggests Strong Upside

Fulton Financial has a long tradition of increasing its dividend every year. Therefore, I expect the company to increase its quarterly dividend from $0.01 per share to $0.16 per share in the first quarter of 2023. I also expect special dividends of $0.08 per share for the last quarter of 2022 and 2023. Earnings and dividend estimates suggest a payout ratio of 38% for 2023, which is below the five-year average of 45%. Based on my dividend estimate, Fulton Financial offers a forward dividend yield of 4.3%.

I use historical price/tangible accounting (“P/TB”) and price/earnings (“P/E”) multiples to value Fulton Financial. The stock has traded at an average P/TB ratio of 1.42 in the past, as shown below.

EX18 FY19 FY20 FY21 Medium
T. Book value per share ($) 9.7 10.8 11.6 12.1
Average market price ($) 17.4 16.5 12.0 16.1
Historical P/TB 1.79x 1.53x 1.03x 1.33x 1.42x
Source: Company Financials, Yahoo Finance, Author’s Estimates

Multiplying the average P/TB multiple by the expected tangible book value per share of $11.0 yields a price target of $15.6 for the end of 2023. This price target implies a decline of 6.6% compared to the closing price on October 20. The following table shows the sensitivity of the target price to the P/TB ratio.

Multiple P/TB 1.22x 1.32x 1.42x 1.52x 1.62x
TBVPS – Dec 2023 ($) 11.0 11.0 11.0 11.0 11.0
Target price ($) 13.4 14.5 15.6 16.7 17.8
Market price ($) 16.7 16.7 16.7 16.7 16.7
Up/(down) (19.7)% (13.1)% (6.6)% 0.0% 6.6%
Source: Author’s estimates

The stock has traded at an average P/E ratio of around 12.0x in the past, as shown below.

EX18 FY19 FY20 FY21 Medium
Earnings per share ($) 1.18 1.35 1.08 1.62
Average market price ($) 17.4 16.5 12.0 16.1
Historical PER 14.7x 12.2x 11.1x 9.9x 12.0x
Source: Company Financials, Yahoo Finance, Author’s Estimates

Multiplying the average P/E multiple with the expected earnings per share of $1.88 yields a target price of $22.6 for the end of 2022. This price target implies a 35.3% upside from at the closing price on October 20. The following table shows the sensitivity of the target price to the P/E ratio.

Multiple P/E 10.0x 11.0x 12.0x 13.0x 14.0x
EPS 2023 ($) 1.88 1.88 1.88 1.88 1.88
Target price ($) 18.8 20.7 22.6 24.5 26.3
Market price ($) 16.7 16.7 16.7 16.7 16.7
Up/(down) 12.8% 24.0% 35.3% 46.6% 57.9%
Source: Author’s estimates

Equal weighting of target prices from both valuation methods gives a combined result target price of $19.1, implying a 14.4% upside from the current market price. Adding the forward dividend yield gives an expected total return of 18.5%. Therefore, I adopt a buy rating on Fulton Financial Corporation.

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