Premier Financial Stock: attractive value, earnings could fall (NASDAQ:PFC)

Earnings of Premier Financial Corp. (NASDAQ:PFC) will most likely decline this year due to higher provisioning expenses. Interest rate hikes will require greater provisioning for expected loan losses in the coming year due to their impact on borrowers’ debt service aptitude. In addition, higher operating expenses and lower mortgage bank revenues will weigh on earnings. On the other hand, management’s expansionary efforts and rising interest rates will likely increase net interest income. Overall, I expect Premier Financial to report earnings of $3.07 per share in 2022, down 9% year-over-year. The year-end target price suggests a strong upside from the current market price. Additionally, Premier Financial offers a good dividend yield for a bank holding company. Therefore, I’m adopting a buy rating on Premier Financial Corp.

Expansionary efforts to stimulate loan growth

After reporting loan growth of 7% (annualized) in the first quarter of 2022, management is targeting full-year loan growth of 8%, as mentioned in the last conference call. This goal appears achievable thanks to Premier Financial’s recent expansion efforts. The company recently launched its operations in Ann Arbor, Michigan. Additionally, management has added 14 new members to the team so far this year, as mentioned in the conference call.

Economic factors may also improve the rate of loan growth in the coming year. Premier Financial operates in several states, including Ohio, Michigan, Indiana, Pennsylvania and West Virginia. Labor markets in these states, as well as across the country, are quite strong, which bodes well for lending growth, especially consumer loans and residential mortgages. As shown below, regional unemployment rates have returned to at least 2018 levels, which bodes well for loan growth.

Overall, I expect the loan portfolio to grow by 8% by the end of December 2022 compared to the end of 2021. During this time, deposits will most likely grow at the same rate as loans for the three last quarters of the year. The following table shows my balance sheet estimates.

Moderate sensitivity to rates to support income

Premier Financial’s revenue is moderately sensitive to interest rate increases. This interest rate sensitivity is largely explained by the credit mix, which favors loans at variable and revisable rates. These rapid repricing loans accounted for 54% of total loans at the end of March 2022, as mentioned in the May presentation.

Unfortunately, the majority of the deposit book will also be revalued immediately after each rate hike this year. These fast-repricing deposits, including savings, checking and money market accounts, accounted for 61.1% of total deposits at the end of March 2022.

Due to the combination of loan and deposit rate sensitivity, the overall net interest margin is only moderately sensitive to changes in interest rates. Management’s interest rate sensitivity analysis presented in the presentation shows that a 200 basis point increase in interest rates could increase net interest income by 7.5% year-over-year. The Federal Reserve forecasts another 150 to 175 basis point increase in the federal funds rate for the coming year. Given these factors, I expect the margin to increase by 15 basis points in the last three quarters of 2022, compared to 3.44% in the first quarter of the year.

Rising interest rates bode ill for credit quality

After last year’s large provision releases, the level of reserve releases is likely to return to pre-pandemic levels this year. Provisions were 142.07% of non-performing loans at the end of March 2022, which is not a comfortable level in my opinion, especially when the fed funds rate is expected to reach 3.5% by the end of March. end of the year. The high interest rate will impact borrowers’ ability to service their debt. Moreover, the chances of a recession in late 2022 or early 2023 are slim. In my view, Premier Financial will want to build up its loan loss reserves in case a recession materializes.

In addition, planned additions to the loan portfolio will require provisioning for expected loan losses. Overall, I expect the provision charge, net of reversals, to remain above normal this year. I expect net provisioning expense to be 0.18% of total loans in 2022. In comparison, provisioning expense averaged 0.09% of total loans from 2017 to 2019.

Expansionary efforts to increase operating costs

Premier Financial’s non-interest expense increased 6.4% year-over-year in the first quarter of 2022. Despite the increase, management mentioned on the conference call that it expects that operating expenses will be around $162 million for 2022, growing only 2.6% per year. -over the year. This target seems overly optimistic given not only recent performance, but also recent expansion in Ann Arbor and new hires. In addition, the inflationary environment is expected to put pressure on wages over the coming year. Accordingly, I expect actual noninterest expense for the year to exceed management’s target. Overall, I expect non-interest spending of $165 million for 2022, 2% above management’s target.

Expect revenue to drop 9%

Expected increases in loan loss provisions and non-interest expense will likely lead to lower earnings this year compared to last year. Additionally, mortgage fee revenue will likely decline in 2022 due to lower refinancing activity. Higher interest rates will end any advantage of mortgage refinancing, reducing total mortgage bank income for the year compared to last year.

On the other hand, single-digit loan growth and decent margin expansion will likely boost top line, supporting earnings. Overall, I expect the company to report earnings of $3.07 per share in 2022, down 9% year over year. The following table shows my income statement estimates.

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. Additionally, the threat of a recession may increase the provisioning of expected loan losses beyond my estimates.

Combination of high upside price and good dividend yield

Premier Financial offers a remarkable dividend yield of 4.7% at the current quarterly dividend rate of $0.30 per share. Earnings and dividend estimates suggest a payout ratio of 39% for 2022, which is below the five-year average of 43%. Therefore, the outlook for lower earnings does not threaten the level of dividends.

I use historical price/book tangible (“P/TB”) and price/earnings (“P/E”) multiples to value Premier Financial. The stock has traded at an average P/TB ratio of 1.65 in the past, as shown below.

Multiplying the average P/TB multiple by the expected tangible book value per share of $18.1 yields a target price of $29.8 for the end of 2022. This price target implies an upside of 15.7% compared to the closing price on June 22. The following table shows the sensitivity of the target price to the P/TB ratio.

The stock has traded at an average P/E ratio of around 11.2x in the past, as shown below.

Multiplying the average P/E multiple by the expected earnings per share of $3.07 yields a target price of $34.4 for the end of 2022. This price target implies a 33.4% upside from at the closing price on June 22. The following table shows the sensitivity of the target price to the P/E ratio.

An equal weighting of the target prices from the two valuation methods gives a target price of $32.1, implying a 24.6% upside from the current market price. Adding the forward dividend yield gives an expected total return of 29.2%. Therefore, I’m adopting a buy rating on Premier Financial Corp.