I Wouldn’t Touch This 1 Stock With a 10-Foot Pole!

Laurentian Bank is trading at fair value. Avoid this stock in your TFSA and RRSP.

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Laurentian (TSX:LB) is a chartered bank under Schedule 1 of The Bank Act (Canada) and has its head office in Montreal, Canada, with a registered office in Toronto, Canada.

It provides financial services to its personal, business and institutional customers through its segments that include retail services, business services, B2B banks, Laurentian Bank securities and capital markets, and LBC financial services. The bank operates primarily across Canada and the United States.

The company reports a market capitalization of $1.8 billion with a 52-week low of $39.76 and a 52-week high of $46.99.

Intrinsic price

Based on my calculations, using a comparable company analysis (CCA) valuation model, I determined that Laurentian has an intrinsic value of negative $146.15 per share.

This occurs when companies have net debt in excess of enterprise value, which results in a negative equity value. Thus, Laurentian reports an implied equity value of negative $6.2 billion. Given this figure, I will be evaluating Laurentian using its P/E multiple as opposed to the EV/Revenue ratio I have used for banks.

Using the P/E multiple, Laurentian reports an intrinsic value of $45.14. At the current share price of $44.01 at the time of writing, I believe Laurentian is trading at fair value. Investors looking to add a bank stock to their TFSA or RRSP should avoid Laurentian.

Laurentian has an enterprise value of $2.9 billion, which represents the theoretical price a buyer would pay for all of Laurentian’s outstanding shares plus its net debt.

Financial highlights

For the fiscal year ended October 31, 2019, the company reports a solid balance sheet with $1.16 billion in retained earnings, up from $1.15 billion in 2018. This increase is a good sign, as it indicates that the company’s surpluses are being reinvested in the company.

The company increased its allowance for loan losses to $100 million, from $93 million in 2018 (+8%) which is roughly in line with Scotiabank, but less than the other major banks, which have double-digit increases.

This is likely due to the lack of exposure Laurentian has to emerging markets that are more volatile compared to the domestic and cross-border markets.

The company reports total revenues of $969 million, down from $1.04 billion in 2018 (-7%), which is coupled with increased expenses for pre-tax income of $196 million, down from $280 million in 2018 (-30%).

From a cash flow perspective, Laurentian reports nil for issuances of debt and nil for repayment of debt. Given fairly substantial total debt of $9.2 billion (subordinated debt plus securitization debt), I expect management to be more proactive in managing the debt load.

The company repurchased $100 million worth of preferred shares in fiscal 2018, which dropped to nil in 2019. It also received $11,000 from the issuance of common shares in 2019, down from $139 million in 2018.

Laurentian is a dividend paying entity with cash outflows of $102 million in 2019 and $89 million in 2018. The company achieves this through quarterly payments of $067 per share.

Foolish takeaway

Investors looking to buy shares of a bank should avoid Laurentian Bank. Despite its positive retained earnings and marginal increase in loan loss allowances, the company reports declining revenues and profitability coupled with a lack of a debt management strategy, which concerns me.

Laurentian has a 6.08% dividend yield, the highest among the Big Six banks. However, I believe investors will be better off purchasing other bank stocks that offer greater security and capital appreciation potential.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium service or advisor. We’re Motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer, so we sometimes publish articles that may not be in line with recommendations, rankings or other content.

Fool contributor Chen Liu has no position in any of the stocks mentioned. The Motley Fool recommends BANK OF NOVA SCOTIA. Bank of Nova Scotia is a recommendation of Stock Advisor Canada.

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