Wednesday, January 03, 2007

RBC CM Upgrades TD Bank

RBC Capital Markets, 3 January 2007


Opinion upgrade to Top Pick from Outperform.

Investment Opinion

• Expecting Positive EPS Revisions. In our view, TD has the best EPS upside potential among banks in 2007. We estimate 16% or $0.74 EPS growth for TD in 2007 to $5.40, while consensus is only $5.23. Our average EPS growth estimate for the peer group is 9%. For TD, we factor 9% organic growth and a 7% from earnings pick-up in TD’s U.S. operations. Our $84 price target indicates a 24.1% 1-year total return potential and factors modest valuation improvement as well.

• The Key Catalyst - U.S. Contribution To Step Up. We expect that by buying up the 40% of Banknorth it does not already own (early ’07), TD should boost its BNK contribution by 40% in 2007 (~$0.15 per share to TD per annum), and another 30% in 2008. Also, the earnings contribution from the Ameritrade-Waterhouse integration should also double, assuming just the mid-point of AMTD management’s earnings guidance, adding another $0.20 per share in 2007. Further, USD appreciation could assist during the transition phase.

• Expecting a Reversal in Fortunes. TD has lagged in 2006 owing to EPS disappointments from its U.S. subsidiaries and investor concerns that TD would continue to aggressively grow those same operations through acquisition. We think this has changed. TD CEO Ed Clark has put the brakes on further deals until Banknorth’s underlying earnings growth resumes. This sets up a high-probability formula for success, including: integration gains on prior deals, improved management focus and the structural earnings pick-up described below. A sweetener would be a rising USD. This could both improve TD’s U.S. contribution and it might also vindicate TD’s timing for acquiring in the U.S., extracting peak buying power from strength in the CAD.

• Attractive Valuation. TD’s valuation at 12.8x our estimated 2007 EPS is 5% below relative the peer group. Typically, TD has traded at a 5-10% premium, reflecting strong management and the leading domestic retail franchise. Our price target of $84 (unchanged) indicates a 2.5x price/book value on year out, roughly in line with our expectation for the group.