February 03, 2011 - 3:28pm EST by
2011 2012
Price: 24.40 EPS $1.51 $1.60
Shares Out. (in M): 64 P/E 16.0x 15.0x
Market Cap (in $M): 1,560 P/FCF NA NA
Net Debt (in $M): 111 EBIT 0 0
TEV ($): 1,671 TEV/EBIT NA NA
Borrow Cost: NA

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Trustmark is a plain vanilla regional bank based in Jackson, Mississippi trading at a pricey 14 times forward earnings and 1.9 times its tangible book. The following link gives a good description of the bank:  Key highlights include 150 total branches, $9.3B in assets, and geographic expansion beyond Mississippi into Tennessee, Florida, and Texas. In banking, boring is generally good, but not when the stock is trading at 14 times 2012 earnings.

Q3 Results Were Decent
Trustmark reported $0.38 of operating EPS, in line with the $0.38 consensus, and demonstrated a 6% decline in non-performing assets (i.e. bad loans and foreclosed real estate, aka NPAs) to a very manageable $230M, or 2.4% of total assets. Loan loss reserves (LLR) came in at 93.5M, or 1.54% of loans and 65% of current NPAs. The coverage is adequate, but not excessive and provides little in the way of future earnings upside (i.e. compared to banks with 3.00%+ reserve ratios or those in excess of 100% of NPAs). 

The quarter also demonstrated stagnant revenue growth, with average loan balances down 1% from Q3/10 and down 5% from a year ago. Net interest revenue (i.e. spread revenue between deposits and loans) did increase 1% from Q3, but that was strictly because of a $300M carry trade the bank decided to build out during the quarter, borrowing in the repo/wholesale market to purchase fixed income securities. The yield curve is fairly steep, so this is currently profitable, but this is low quality earnings that puts the bank at risk if interest rates move up more quickly than expected. The net interest spread fell 3 basis points to 4.36% from 4.29% in the third quarter. (Frankly, I was surprised the spread compression wasn’t greater--at 4.36%, TRMK’s margin is fairly high compared to many peers and the absolute level of current interest rates. I believe there will be a good bit more spread compression going forward and would not be surprised to see the margin fall below 4.15% in the next few quarters. Non-spread revenue will also be pressured going forward as the result of the Durbin ammendment hitting debit card fees, costing as much as $10M annually, or about $0.10 of EPS.

M&A: Not to be Jilted Again
Last September, Trustmark had announced a deal to acquire Cadence Financial (CADE), a troubled bank in Mississippi with $1.9B in assets. Since it was an in-market deal and the purchase price was only 30% of tangible book, it probably would have been a homerun. However, it was snatched away at the last moment by an out-of-market competitor who offered 40% of book and the promise not to fire the executive suite. Trustmark wants to do a deal, and when that deal happens, it will likely be relatively expensive and disappointing to the investment community, given the recent run-up in target stocks.

Weak revenue, margin pressure, expensive acquisition

TRMK trades at 16 times current earnings, 14 times my normalized earnings estimate of  1.75 and almost 1.9 times its $13.17 tangible book. Buying an average bank with stagnant revenue growth and fierce competition at 14 times forward earnings makes little sense. The PE multiple should be closer to 11. The valuation is likely getting support from the stock’s 3.8% dividend yield. This isn't a super exciting short, but I think downside is limited and a 10-20% return in the next six months is very realistic.


Weak revenue, margin pressure, expensive acquisition
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