Friday, February 24, 2006

TD Bank Q1 2006 Earnings

• Analysts at Blackmont Capital have raised their target price for TD from $65 to $72.

• Analysts at UBS downgrade TD from "buy" to "neutral," while raising their estimates for the company. The 12-month target price has been raised from $72 to $74. In a research note published this morning, the analysts mention that following its significant appreciation, TD's share price reflects the company’s healthy growth prospects. The EPS estimates for FY06 and FY07 have been raised from $4.65 to $4.75 and from $5.30 to $5.35, respectively.

TD Bank profit gets high marks, but analysts wary

Reuters, Cameron French, 24 February 2006

Toronto (Reuters) - Analysts gave a broad thumbs-up on Friday to Toronto-Dominion Bank's first-quarter financial performance, but one brokerage downgraded the bank, while others advised caution as the stock's high valuation and questions about U.S. operations could keep a lid on gains.

Net income at the bank, Canada's second largest by assets, nearly quadrupled in the quarter as TD booked a C$1.67 billion ($1.45 billion) gain on the sale of its Waterhouse USA online broker to Ameritrade Holdings Ltd. in exchange for a one-third stake in the combined company.

Core profits also climbed, and at a faster pace than expected, while the bank continued its pattern of raising its shareholder dividend every second quarter.

"Gold medal out of (first-quarter) starting gate," said a research note by RBC Capital Markets analyst Jamie Keating, who raised his 2006 earnings per share estimate to C$4.70 from C$4.68.

The bank's performance was driven by steady top-line growth in TD's domestic branch banking business, and also by robust wealth management and brokerage income as strong financial markets increased mutual fund sales and trading volumes.

Keating noted the trading revenue was unsustainably strong, however, echoing a warning from TD chief executive Ed Clark the previous day.

UBS Investment Research went a bit further with its concerns, downgrading the stock to "neutral" from "buy," despite noting TD has one of the better growth outlooks of Canada's banks.

Analyst Jason Bilodeau noted the stock has already benefited from heady expectations, and that its valuation has grown in recent years to now sit even with, or just above, its Canadian peers.

"A premium valuation is deserved in our view, but from here, amid a generally fully valued sector, we expect additional expansion will be harder to come by," he said.

He said while the bank's positives -- which include the strong domestic retail bank and U.S. growth prospects -- are reflected in the shares, potential problems may not be.

These include concerns about profits and acquisition risk at TD's newly-acquired U.S. Banknorth retail unit, as well as the potential for a large settlement in a lawsuit by shareholders of energy trader Enron, which collapsed amid an accounting scandal in 2001.

While analysts were unsure of the prospects for future TD stock gains, investors seemed pleased with the bank's results, driving the stock higher after the earnings release and also again on Friday morning.

Merrill Lynch analyst Andre-Phillippe Hardy left his TD rating at "neutral," having recently downgraded the stock.

He noted concerns in the immediate future include Enron, the potential for disappointing Banknorth earnings, and the fact that cost benefits from the Ameritrade deal will likely take 18 months to materialize.
BMO Nesbitt Burns, 24 February 2006

Q1/06 Results – Nothing too Fancy, Just Solid Fundamentals

For the first quarter ending January 31, 2006, TD Bank reported net income of $2.3 billion, or $3.20 per share compared to $630 million, or $0.95 per share, in the same quarter of last year. More importantly, excluding unusual items, the bank reported Cash EPS of $1.15 compared to $1.04 a year ago—ahead of our forecast of $1.11. The variation from our forecast came from very strong trading at TD Securities.

All in, we would view this as a solid quarter. Retail earnings were in line. Wealth Management had an excellent quarter and Wholesale banking performed well ahead of our expectations. The corporate segment, however, produced more of a drag than we had forecast. All in, we expect Wholesale performance to moderate in the future, but believe that this will be more than offset by better expense performance across the bank.

The Canadian Personal and Commercial Banking segment reported solid results, with net income of $476 compared to $443 in the previous quarter and $424 in the same quarter of last year. Strong loan growth, particularly in real estate secured lending, and consistent credit quality (provisions for credit losses were broadly unchanged over the period) were the main contributors. Spreads also widened from the fourth quarter, likely helped by the increase in the Prime rate and less aggressive pricing by competitors. Non-interest expenses were above our expectations, and we believe that there is room for further improvement in expense ratios. On the market share front, TD performed more credibly this quarter, with no discernable change in consumer deposits and loans, but some improvement on the business front. Overall, we believe that 12% bottom-line growth appears to be sustainable for all of 2006.

Wealth Management reported net income of $138 million, compared to $136 million in the last quarter and $98 in the same quarter of last year. These results were due to strong fee growth and trading volumes, partially offset by the fact that TD Waterhouse USA (TDWUS) was only included for part of the quarter. Specifically, TDWUS only contributed $33 million this quarter, compared to an unusually strong $51 million in the fourth quarter of 2005. Next quarter, TDWUS will be deconsolidated and AMTD will begin to contribute, albeit only partially. Outside of TDWUS, results were excellent.

Wholesale banking performed unusually well this quarter. Contribution of $199 million (which excluded $35 million of further restructuring charges) was the highest in three years reflecting excellent trading results. Trading revenues were $375 million compared to our forecast of $275 million. We expect the performance of this division to moderate in coming quarters.

As always, there was a lot of noise in TD’s overall reported results. This time the clutter was exacerbated by a changed approach to defining “items of note” and a restatement of the corporate segment. As we look at it, the “operating loss” of $43 million was somewhat worse than we had thought, and this offset some of the strength in Wholesale and Wealth.

Credit quality, for the most part, remained strong in the first quarter. Gross impaired loan formations tracked up to $263 million from $214 million in October. Net impaired loans were $210 million (before $1.2 billion of general allowance), up only slightly from the previous quarter but lower than the year-ago quarter. As in the last quarter, none of these loans relate to the corporate loan segments. Loan losses of $114 million (which included a $17 million PCL in Wholesale that relates to Merchant Banking) were slightly higher than our forecast of $100 million. All in, there were no surprises on the credit front.

Tier 1 and tangible common equity ratios increased to 11.9% and 8.8%, respectively, largely due to the gains arising from the Ameritrade and Banknorth deal. Currently, TD Bank has one of the best balance sheets in the Canadian banking system. It is interesting to see where the bank deploys its excess capital in the longer term. In the short term, it increased its dividend from $0.42 to $0.44 (mainly due to the better earnings base). TD also announced that it had acquired 500,000 shares of BNK and that it intends to purchase 15 million shares of AMTD by August 22nd. The AMTD purchase will use up about US$325 million of excess capital. We expect to see TD become more aggressive on the purchase of BNK shares in the coming quarters.


We are leaving our Cash EPS forecasts largely unchanged. For 2006, exclusive of unusual items, TD should earn $4.70. We forecast $5.25 for 2007. This was a strong quarter, but much of the upside has arisen from the Wholesale business which tends to be volatile. We are not increasing our assumptions of the medium term earning potential for TD Securities. The Domestic P&C business had excellent revenue performance this quarter, but expense control was less than apparent. We would expect that the bank has some “levers” should loan growth moderate in the second half of 2006.

We still like TD Bank shares at current prices. Clearly, the core businesses are in great shape. In addition, the bank is positioning itself well for the long term. The deal with Ameritrade should be very accretive in the second half of 2006 and into 2007, and the acquisition of VFC looks reasonable. The one blemish is TD Banknorth. Earnings growth in U.S. banking is somewhat muted by the flat yield curve, and the ongoing competitive pressures on deposit pricing. Having said this, this quarter BNK contributed $65 million of the overall bank’s $835 million of after-tax profits—less than 8%. With its strong balance sheet, TD is adequately positioned to deal with the U.S. situation, whatever the short-term conditions. At discounted P/E and P/BVs, TD shares remain attractive.

RBC Capital Markets, 24 February 2006

Gold Medal Out of Q1 Starting Gate – Raising 2006 Estimate

TD Scores a ‘Perfect’ Q1. Adjusted EPS of $1.15 was solidly above $1.09 consensus expectation. These results included unusually high trading and securities gains at ~5¢ - the underlying EPS of $1.10 was of excellent quality. We are edging our ’06 EPS estimate up 2¢ from $4.68 to $4.70 and maintaining our above consensus $5.30 cash EPS estimate for 2007. TD also hiked the quarterly dividend 2¢ to 44¢/share.

Strong Trading Revenue. The caveat was unsustainably strong trading revenue at $375MM and high underlying securities gains at ~$75MM (reported was $23MM, though net of a $52MM Banknorth charge, the underlying gains triggered totaled $78MM). A $17MM merchant bank write-down partly mitigated these items, so we judge sustainable EPS at ~$1.10.

Strong Divisional Profit Growth. At $476MM, P&C net income was up 12% YoY (25% divisional ROE) driven by volume growth. Wealth profit leapt 41% YoY on 12% revenue growth from mutual funds sales and assert management returns. Wholesale profit grew 41% YoY on 16% revenue growth, largely on higher trading revenue. In U.S. retail banking, TD Banknorth’s profit was flat as expected.

Credit Excellent. The loan loss provision (LLP) at $114MM included a $17MM merchant banking write-down and compared to our $107MM estimate ($110MM consensus). Net of the write-down, the $94MM underlying LLP was level with Q4/05 at $94MM and was up from Q1/05 at $80MM. Impaired loans were stable and reserve coverage is league leading at 372%, double the sector norm.

Capital & Reserves Remain Very Strong. TD’s 11.9% Tier 1 capital ratio was higher than the 11.5% we had modeled. Unrealized securities gains grew to $806MM (85¢/share).

Valuation. Our price target of $72 (unchanged) is set at 13.5x our 2007 cash EPS estimate of $5.30. Our premium target P/E reflects TD’s leading domestic franchise, a management that we rate as peerless and the unique structure for growth in the U.S. with Banknorth and TD Ameritrade. Our target P/E is set at a 3% premium to the group, above the five-year average discount of 1%; however, TD has traded at an average 6% forward P/E premium to its Canadian bank peers since 1998 and we would view positive execution experience on BNK as an avenue to revaluation. Our price target is indicated at ~2.8x our projected book value of $25.54 (as at Oct 31/06).

Scotia Capital, 24 February 2006

Strong First Quarter Earnings and 5% Dividend Increase

• TD bank reported strong first quarter earnings of $1.15 per share, an increase of 11% from a year earlier, ahead of expectations. Earnings were driven by a significant increase in wealth management earnings, extremely high trading revenue with retail bank earnings supported by a 5 bps increase in the net interest margin and solid insurance revenue.

• Return on equity for the quarter was 19.9% versus 21.3% a year earlier. Return on risk weighted assets was 2.48% versus 2.67% a year earlier.

Ameritrade Transaction Boosts Book Value and Capital Ratios

• Reported net income was $3.20 per share including a number of items of note (highlighted in Exhibit 2) but particularly a $2.32 per share dilution gain on the Ameritrade transaction.

• The Ameritrade transaction assisted the book value growth of nearly $3 per share in the quarter to $25.25 per share. The Ameritrade transaction also helped boost the bank's capital ratios.

• Tier 1 capital improved to 11.9%, which is expected to be the highest of the bank group, from 10.1% in the previous quarter. Common equity as % of RWA is 13.6% and tangible common equity to RWA is 8.8%.

Consistent & Frequent Dividend Increases

• The bank announced a 5% increase in its common dividend to $1.76 per share with a payout ratio of 38%. The low payout ratio and strong earnings growth outlook bodes well for continued high dividend growth. The bank has now increased its dividend every second quarter since the third quarter of 2003.

Wealth Management - Earnings Driver

• In terms of earnings growth, Wealth Management earnings increased 41% to $138 million driven by 12% revenue growth and 3% expense growth reflecting the significant operating leverage inherent in this business/operating platform.

• Wholesale Banking had an exceptional quarter with a 41% increase in earnings to $199 million driven by very high trading revenue. We would expect lower earnings from this business over the next several quarters.

• Canadian P&C Banking increased 12% YOY to $476 million driven by 8% volume growth with net interest margin increasing 5 bps in the quarter. The bank's US P&C Banking business was the one weak spot with earnings declining 6% to $65 million from the previous quarter. Earnings in this business are expected to show only modest growth over the next few years given the difficult operating environment including the flat yield curve. This business only represented 8% of total bank earnings.

Favourable Business Mix

• TD continues to have a very favorable business mix in the higher P/E multiple businesses with retail and wealth management representing 81% of total bank earnings.

Earnings Estimates and Share Price Target Unchanged

• Our 2006 and 2007 earnings estimates remain unchanged at $4.60 per share and $5.10 per share, respectively. Our 12 month share price target is also unchanged at $75 per share representing 16.3x our 2006 earnings estimate.

Maintain 1 Sector Outperform - P/E Expansion - 10% Premium to Group

• Maintain 1-Sector Outperform rating on shares of TD based on dominant retail and wealth management platforms, high earnings growth vehicle through TD Ameritrade, higher than bank group profitability and capital, and the absence of any meaningful P/E multiple premium. We expect TD's P/E multiple to expand to a 10% premium relative to the bank group on higher earnings growth providing significant outperformance over the next several years.

The Globe and Mail, Sinclair Stewart, 24 February 2006

TD's U.S. growing pains

Toronto-Dominion Bank reported what its chief executive officer described as a “remarkable” first quarter yesterday, churning out $2.3-billion in profit, recording double-digit growth in its juggernaut Canadian retail operations, and turning in stellar trading results that underpinned a resurgent performance by its investment bank.

Yet despite breezing by consensus analyst estimates, and generating significant improvement across most of its business lines, TD's growing pains in the United States have suddenly made Ed Clark look a little less bulletproof.

TD Banknorth, the linchpin of the bank's U.S. retail operations, contributed just $46-million in the quarter, down from $69-million in the final quarter of last year, as regional banks south of the border continue to be hobbled by a nasty interest-rate environment.

This has taken a bit of the shine out of TD's much-lauded expansion strategy, and some are now questioning whether Mr. Clark spent too much in his eagerness to tap the U.S. market: not just on Banknorth, which was acquired for $5-billion, but for the $1.9-billion (U.S.) takeout of New Jersey-based Hudson United Bancorp.

“I think that even if we think these are great assets . . . you've got a long way to go before they are economically profitable for shareholders,” said Darko Mihelic, an analyst with Blackmont Capital.

“In other words, Ed Clark overpaid.”

The flattening yield curve has hurt regional U.S. banks, which depend heavily on the spread between short-term and long-term interest rates for their profit margins.

Yet as targets, their asking prices have remained stubbornly high, raising a dilemma for the banks: If this is what U.S. growth looks like, how wise is it to leave the relatively high returns of Canada in the first place?

“There's no question that U.S. regional banking looks less like the mecca it did two years ago,” acknowledged another analyst who tracks TD.

“The issue is, should you be doing any more, or should you just keep your powder dry?”

Mr. Clark said the company's U.S. purchases have created the opportunity to build a powerful name for itself in that market, but added he's in no hurry to do another acquisition right now.

“Clearly, operating a bank in the United States is tough today,” he told analysts during a conference call yesterday. “[Banknorth CEO] Bill Ryan's team is looking at everything they can do to respond to this challenging environment.”

Another concern is whether Banknorth bit off more than it could chew with the sizable purchase of Hudson United last summer, given that bank's well-documented regulatory problems and concerns about the quality of its earnings.

“Banknorth is buying something a little bigger than they have normally bought — and they're doing it with a fixer-upper,” said National Bank Financial Inc.'s Robert Wessel. “If there's one thing I focus on [with the U.S. expansion] it's that.”

Mr. Clark may finally be showing a few chinks in his Kevlar, but it would be misguided to think investors are fretting.

TD's share price reacted favourably yesterday to the bank's quarterly profit, which more than tripled to $2.3-billion (Canadian), or $3.20 a share, thanks to a massive $1.7-billion gain from the merger of TD Waterhouse with rival discount broker Ameritrade Holding Corp. last year.

On an adjusted basis, which strips out this gain along with a number of other one-time items, profit was $830-million, or $1.15 a share: about a nickel better than analysts' average estimates.

The bank also rewarded shareholders by raising its quarterly dividend by 2 cents a share to 44 cents, and they responded by driving up the bank's stock 40 cents to $64.85 on the Toronto Stock Exchange.