Bank Dividend: Will It Grow?



Remember how I said earlier that anyone can make a loan, but only a bank can take a deposit? This observation provides a neat way to evaluate the growth prospects of the banking industry. Bank deposits have historically grown about as fast as the economy, at 5 or 6 percent a year, depending on inflation. That provides a baseline for measuring the industry ’ s prospects as a whole. Moreover, the growth of fee - based services has a record of outpacing deposit and loan growth, adding perhaps a percentage point to industry growth. Of course, with 1,000 or more publicly held banks to pick from, some institutions will perform well year after year while others fall short.
Here are the key factors I take into consideration when estimating core growth:
Geography . Some areas — predominantly western and southern states — are growing faster than the rest of the country, and their rising population and household wealth can boost the fates of local banks. Other areas (the Rust Belt, Appalachia, certain parts of the South) lag the overall economy, making it tough for local banks to grow faster than the rate of inflation. Strategy . You might say there are two basic kinds of banks: Those that are trying to gather as many deposits as possible, and those that are trying to make as many loans as they can. The deposit - driven banks are my favorite; again, only a bank can take a deposit, and it ’ s a very cheap form of funding that almost always leads to above - average profitability. Loan - driven banks that aren ’ t equally good at gathering cheap deposits often resort to more costly forms of funding — broker - sold CDs, commercial paper, and bond issues — that narrow their margins.
Revenue sources . I love fee income. Unlike the spread business of deposits and loans, it requires little or no equity capital for support. These activities, such as insurance brokerage and investment advice, usually carry fat margins and above - average growth rates as well. These in turn benefit ROE.
Acquisitions . In general, I don ’ t give banks credit for growth added via acquisitions. In the few cases where a bank is a relentless and extremely disciplined acquirer, I might add a few percentage points of core growth to its internal growth prospects. But if I do this, it will have to be reflected in my assumptions for returns on equity. Acquiring a bank is not nearly so profitable as simply expanding the operations already in place.
For BB & T, 6 percent core growth seems like a reasonable assumption. This is perhaps a bit faster than U.S. nominal GDP, but BB & T ’ s footprint in faster - growing southeastern states as well as a lot of fee - based revenue (insurance brokerage) should give a bit of an edge.
As for ROE, I have a choice to make. In 2006, BB & T earned only 13.4 percent on its shareholders ’ equity, a slightly subpar figure by industry standards. However, this figure was weighed down by the $ 5.3 billion in intangible assets on its books. Not only that, but net income was depressed by $ 104 million worth of noncash expenses related to these intangibles. These intangible assets don ’ t need to be added to when the bank expands internally, so I back both figures out of ROE. (See Figure A3.11 .) What might BB & T have in store? Let ’ s turn to our friend the Dividend Drill Return Model, using assumptions of a 6 percent core growth rate and a 25 percent return on incremental equity.