Description

Bank of Ireland (BIRG IR and BKRIF US) has been quite the decade-long value trap, trading sideways subsequent to recovering from its 2009 debacle of poor lending and government intervention. It was last written up on VIC close to four years ago: https://www.valueinvestorsclub.com/idea/Bank_Of_Ireland_Group_plc/3878230654

The bank is expected to produce a return on equity of 8.25% this year, while still only trading for 63.8% of tangible book value (58.4% of book value).

Bank of Ireland will be the first Irish bank to fully return to private ownership, with the Irish government’s decision to reduce its 14% ownership.

There are several changes happening that might revive interest in this stock. They are all related to its improving capital position. For the interim outlook conference call, the CFO closed his remarks with the following statement:

…and distributions are to recommence on a product and progressive basis based on performance and capital outlook.

The bank is taking advantage of its high capitalization (fully loaded CET1 ratio of 14.1%) and its improving asset quality (NPE ratio of 5.3% of gross customer loans). This year they have completed two significant non-organic growth acquisitions.

Operating profits pre-impairment were +72% versus H1 2020. The underlying profit before tax in the first half of 2021 was €465 million. This is for a bank with a current market cap of €5.41 billion.

H1 underlying EPS was €0.336 per share. Extrapolated over a year, that would represent a P/E of 7.5x. Street guidance is 2022e P/E of 6.7x.

Significant Acquisitions:

The first of these is with KBC Ireland, which will exit the country with €9.2B of its performing loans and €4.4B of its customer deposits being absorbed on by Bank of Ireland. This deal became binding in October and is expected to close in 2022.

The acquisition is expected to be accretive, adding 1.1% to RoTE in the first full financial year of ownership. The transaction is also expected to reduce the bank’s NPE ratio by 0.4%.

In addition, the bank is acquiring J&E Davy, which is Ireland’s largest wealth management and capital markets business. This transaction should also close in 2022.

What does this mean? Well besides the improvement in business lines and capital usage, the key impact will be pushing the bank’s ROE toward 10%. According to their October 29th, 2021 Interim Management Statement:

Both transactions support our business growth strategy and are financially transformative, supporting our target to deliver a ROTE in excess of 10% in the medium term.

Here is their complete guidance:

In the meantime, costs keep coming down. They have had 7 straight reporting periods of sustainable cost reductions. In their updated midyear guidance, they expect costs to continue to reduce from 2021 costs of less than €1.65B to 2023 costs of €1.5B.

Competition and Market:

One of the items that caught our attention while researching this stock was that it appears to the largest portfolio position of the Third Avenue Value Fund (8.1% portfolio weight). Their thesis, shared in their September 30th report (https://thirdave.com/wp-content/uploads/shareholder-letters/TAVFX-Shareholder-Letter.pdf) includes these observations:

·         “The Irish bank industry is on the cusp of a rapid consolidation from five major banks to three.”

·         The first to leave is KCB Bank, as mentioned earlier in this write-up.

·         The next exit is Ulster Bank’s operations being divided between Allied Irish Bank and Permanent TSB.

TAVF looks to this consolidation as being a healthy improvement as it improves scales and cost efficiencies of the remaining banks.

Government of Ireland Rapidly Selling Stake:

The current rate of government selling of Bank of Ireland may be putting some pressure on the stock. In June, the government announced that it planned to sell down part of its 13.9% shareholding over the next six months.

On November 18th, the government announced that it sold another 1% tranche of shares and had reduced its ownership to 8.99% (https://www.rte.ie/news/business/2021/1118/1261681-bank-of-ireland-shares/).

It is on pace to fully divest its shares entirely in 2022. In June, it held 13.9%. On August 31st, it announced a reduction to 11.97% from 12.98%. Basically, it appears to be selling one percentage point each month.

Further Considerations:

This is not a complicated situation. The final considerations undoubtedly have to do with its strong market position as Ireland’s champion bank and its ongoing improvements in operations.

The bank can now fulfill 99% of Irish mortgage products digitally. 73% of small business and agricultural applications are now delivered digitally.

It has turned around its UK business, with a “smaller more profitable business model”.

Looking forward toward the middle of next year, any remaining stake owned by the government should at that point be negligible. This, combined with the bank’s improving capital outlook, should fulfill the promised resumption of dividends and share buybacks (https://www.irishtimes.com/business/financial-services/bank-of-ireland-signals-first-share-buyback-in-two-decades-1.4497983).

Disclaimer: The views and analysis expressed in this post are solely my own and do not represent the views, analysis, or opinion of our firm or any other entity with which I have been or am now affiliated with or employed by.  The content of this post is solely for informational purposes. It is critical to perform your own independent analysis and consult with a financial professional prior to making any and all investment decisions.

Catalyst

Improvement in ROTE approaching 10% ROE's given the consolidation of KBC Ireland's loan and deposit book.

Rapid sell down of Irish government's stake should complete exit around the middle of next year.

Resumption of "distributions" via dividends and share buybacks in 2022.