Wednesday, March 07, 2007

Scotiabank Q1 2007 Earnings

Financial Post, Jonathan Ratner, 7 March 2007

Bank of Nova Scotia’s 20% year-over-year gain in first quarter profit to $1-billion provided a boost for the company’s stock after a downward run since late February.

Analysts liked the results, which included lower loan loss provisions than some had expected.

Michael Goldberg at Desjardins Securities maintained his $57 price target on Scotiabank shares, while upgrading his rating to “top pick” from “buy.”

It remains one of the best managed banks among the big six in Canada, Mr. Goldberg said in a research note, adding that Scotiabank’s international expansion has been a great success.

“Scotia’s unorthodox strategy has been bearing fruit and demonstrates that it can achieve growth without sacrificing return,” he said.

Over at UBS, analyst Jason Bilodeau is even more optimistic, raising his recommendation on BNS shares to “buy” from “neutral” and hiking his price target by $2 to $58. This represents upside of roughly 14% from Tuesday’s close.

He said the bank’s domestic operations appear to be on pace for reasonable results, while superior growth could come from its international operations in the medium term.

“Having underperformed amid general market weakness, we believe valuations are looking better with room to return to a premium,” Mr. Bilodeau said in a research note, adding that the bank’s recent acquisitions should help results in the second half of 2007.

Blackmont Capital’s Brad Smith has a “buy” recommendation on BNS shares and hiked his price target to $61.

National Bank Financial analyst Robert Wessel rates the stock an “outperform” with a $59.00 target.
TD Newcrest, 7 March 2007


BNS reported operating EPS of $1.01 ahead of our estimate and consensus of $0.94. Strong results were driven by international operations and the wholesale division. A skeptic might lower the operating EPS number to be closer to $0.98 given that reported results included investment security gains roughly $30 million higher than historical run-rates, and a large PCL reversal in Scotia Capital.


Positive. We are increasing our 2007 and 2008 EPS estimate to $3.93 (from $3.80) and $4.30 (from $4.15) respectively, reflecting strong asset growth and excellent operating leverage in both the domestic and international businesses. We are raising our 12-month target price to $60.00 (from $57.00), and maintaining our Action List Buy recommendation.


Canadian retail results were slightly above our expectations, with cash net income of $367 million (Exhibit 2 provides more detailed financial highlights), increasing 10% year over year reflecting:

• Stellar asset growth up 12.3% year over year, albeit partially boosted by the acquisition of Maple Trust. The full positive earnings impact of the Maple Trust deal should materialize in 2H 2007.

• Impressive efficiency improvements (down 120bps yoy) despite continued spending on growth initiatives.

• Mutual fund results turned around, with net flows improving meaningfully. This is the second consecutive quarter we were positively surprised by wealth management results. Management appears to be executing its plans very well.

International operations had yet another spectacular quarter, earning $317 million (up 34.3%) – well above our expectations. The increase was attributable to widespread organic growth in virtually every product category as well as significant contribution from acquisitions (added $41mln yoy) in Latin & Central America and the Caribbean. Integration efforts have also exceeded expectations reflecting efficiency improvement (down almost 200 bps). Even more impressive is that results were achieved despite BNS’s aggressive branch expansion strategy, which incurs up-front costs. We believe that BNS’s international operations provide investors a unique growth opportunity, and the momentum from the division appears far from slowing. Of note, while the disclosure on Mexican credit is somewhat still puzzling, we have gained comfort that the simple answer is that credit within Mexico is well managed and losses are at low rates.

Wholesale banking results were ahead of our estimates this quarter, primarily due to healthy investment banking income, credit loss recoveries, and higher than normal investment securities gains, offset slightly by moderate trading revenues.

• Trading revenues of $294 million (down qoq and yoy) were a slight disappointment given the strong trading results experienced by most peers, however, management anticipates a good overall trading year.

• Global corporate and investment banking revenue growth was solid (up 20% yoy) reflecting strong loan volume (in Canada, US and Europe), interest recoveries from impaired loans and overall strong investment banking environment.

• Investment securities gains were $127 million, roughly $30 million higher than the 8-quarter average. We remind however, that unrealized security gains remain above $1 billion.

• The credit environment remains benign with net credit reversals of $30 million recorded. Tier 1 capital was healthy at 10.4%, despite strong growth in risk-weighted assets (up 22.4% Y/Y). The bank did not increase its dividend this quarter and we were disappointed to see that management did not buy back any shares. The bank maintains over $1 billion in unrealized securities gains.

Justification of Target Price

Our $60.00 BNS target price is a product of adding 50% of the $59.00 value derived from our 2007 P/E multiple of 13.5 times to 50% of the $60.92 value derived by our 2007 price-to-book of 3.33 times.

Key Risks to Target Price

We believe that the key risks include: a) a deterioration in the geopolitical situation in one of the bank’s international markets (most importantly Mexico); b) a tougher credit environment which could lead to credit losses due to the bank’s more aggressive U.S. corporate lending strategy; c) the bank paying a significant premium for an acquisition; d) the deterioration of the USD and e) higher interest rates.

Investment Conclusion

In summary, a stellar quarter (reflected in the impressive 23% ROE) driven by explosive international revenue growth, and firmly supported by solid domestic retail and investment banking. BNS shares have been the worst performing of the CDN banks year-to-date. We continue to believe that long-term investors will be rewarded by owning shares in this well-managed bank which is investing for the long term, at the partial expense of even stronger short-term earnings growth. Despite what we view as above average long-term earnings growth potential the stock is trading at 12.9 times 2007 EPS, roughly in line with peers. We reiterate our Action List Buy recommendation.
Bloomberg, Sean B. Pasternak, 7 March 2007

Bank of Nova Scotia, Canada's third- biggest lender, plans to open investment banks in countries such as Peru and Chile to do more business with mining clients, said Stephen McDonald, co-chief executive officer of Scotia Capital.

``With a relatively modest investment on our part, we think we can leverage some of these markets,'' McDonald said in an interview in Halifax, Nova Scotia. ``We're going to be more aggressive on that front over the coming years.''

Scotiabank, as the Toronto-based lender is called, wants to expand its investment banking operations in some of the 50 countries where it offers consumer banking. Establishing new offices as early as 2008 would ``make sense'' in countries such as Peru, where Scotiabank runs the third-largest consumer bank, or Chile, where it has mining clients.

``Our strategy is one to follow the bank, and follow our customers,'' McDonald said, following the bank's annual shareholders meeting yesterday. ``Other markets are possible.''

Bank of Nova Scotia expanded its Scotia Capital investment banking business in Mexico in 2005 after it increased its controlling stake in Grupo Scotiabank. The Mexican investment bank, which offers corporate banking, fixed income and other products, employs about 100 people and will probably hire more, McDonald said.

Expansions in Chile and Peru may help win more business from mining clients. Bank of Nova Scotia last year paid $330 million for Peru's Banco Wiese Sudameris SA. The economy in Peru, the world's biggest silver producer, expanded 8 percent last year, following growth of 7.6 percent in 2005. The bank also owns Scotiabank Sud Americano SA in Chile. That country is the biggest copper producer in the world.

Scotia Capital has spent the past six months rebuilding its mining division in Canada, after losing out on transactions such as Cia. Vale do Rio Doce's $16.7 billion purchase of Toronto- based Inco Ltd. last year. Scotia Capital ranked 11th in 2006 among banks advising on Canadian mergers, and 12th the previous year, according to data compiled by Bloomberg.

The firm hired George Brack from MacQuarie Bank Ltd. last year to head a group of about 10 people in Vancouver and Toronto, and is looking to hire three or four more in the sales, trading and research areas of that unit.

``We've been underinvested in the mining sector, so we made a commitment to growing it,'' said McDonald, 50, who was promoted to his new post along with John Schumacher in 2005 to replace David Wilson, chairman of the Ontario Securities Commission. ``We feel we've got a top quality (merger and acquisition) advisory team in place now.''

Scotia Capital is also looking at selling more services to hedge funds. The bank has ``really good relationships'' with about 35 funds and would like to increase that to about 100, McDonald said.
Financial Post, Duncan Mavin, 7 March 2007

Bank of Nova Scotia yesterday became the latest Canadian bank to defy predictions of a credit downturn after record first-quarter results showed the bank is setting aside less for bad loans than many in the industry had expected.

Scotiabank said it earned $1-billion in the first quarter of 2007, up almost 20% from $852- million a year ago. The bank's results, revealed at its annual meeting in Halifax, were partly helped by a low loan loss provision of $63-million, down 20% from $75-million last year.

"Two and a half years ago, everyone was worrying about credit quality and we still haven't seen it," said an analyst who covers the industry.

"All of the analysts on the street are hyper-sensitive to this but we just aren't seeing anything.

"As soon as we do, we'll all jump on the bandwagon."

The banks say loan losses are low because of the strong Canadian economy and because they say they have improved their loan-approval processes and risk management capabilities in recent years.

The provision for loan losses at Scotiabank "may be unsustainably low," said Genuity Capital Markets analyst Mario Mendonca. Scotiabank set aside less for bad debt than last year even though there was a 21% increase in the average amount it lends to borrowers, Mr. Mendonca noted.

The first-quarter provision for loan losses fell at Canadian Imperial Bank of Commerce and was unchanged from last year at Bank of Montreal.

Royal Bank of Canada and Toronto- Dominion Bank both had an increase in their loan losses, but the overall level of provisions remains at a historical low compared to the amount of loans outstanding.

Despite loan books that continue to grow, the total loan-loss provisions for the big five Canadian banks remains low. The group's total provision for credit losses for the first quarter of 2007 was less than $585-million, an increase of only about a quarter from$454-million last year. Some analysts had expected the total provisions for the group to increase by a third.

Banks in other countries, including the United States and the United Kingdom, have recorded significant increases in the size of their loan-loss provisions recently. But Canadian bankers have argued their loan books don't have the same credit quality profile as banks elsewhere that lend to riskier borrowers.

However, Scotiabank's management acknowledged that loan losses could be set to rise.

"Looking at the balance of 2007, we expect credit losses to rise somewhat," said Brian Porter, the bank's chief risk officer.

For now, Scotiabank is basking in its first billion-dollar quarter, driven by strong performance from its international division.

Scotiabank's overseas operations churned out profit of $316-million, up 36% from $233-million last year. The international group grew through acquisitions in Peru, Costa Rica and the Dominican Republic in 2006. Almost a third of the bank's profit comes from outside of Canada.

Chief executive Rick Waugh told investors at the annual meeting the bank will continue to look for growth in the Americas and in Asia.

"This is so unique to Scotiabank," Mr. Waugh said. "There are very few banks that have an international footprint and perspective like ours."
Bloomberg, Sean B. Pasternak, 6 March 2007

Bank of Nova Scotia, the last Canadian bank to report first-quarter results, said profit topped C$1 billion ($849.8 million) for the first time, led by higher earnings at its international unit.

Net income for the period ended Jan. 31 rose 20 percent to C$1.02 billion, or C$1.01 a share, from C$852 million, or 84 cents, a year earlier, the Toronto-based bank said today in a statement. It was the biggest profit increase in almost three years, and beat analysts' estimates.

Profit from the international unit of Canada's third- biggest bank, which includes operations in Mexico and the Caribbean, rose 35 percent, or three times faster than the domestic bank, after the lender spent more than C$1 billion to buy banks in Peru and Costa Rica.

``International operations continues to underpin Bank of Nova Scotia in their ability to deploy capital in markets with higher growth prospects and margins,'' UBS analyst Jason Bilodeau said today in a note to clients.

Scotiabank bought a 68 percent stake in Jamaica's Dehring Bunting & Golding Ltd. investment firm during the quarter and agreed to buy 10 percent of First BanCorp in Puerto Rico last month for about $94.8 million. International banking profit rose to C$318 million, from C$235 million, accounting for 31 percent of profit, compared with 25 percent in fiscal 2004.

``I think that it's a positive thing for a bank to be participating in global markets as long as they do it in a disciplined manner,'' said Jackee Pratt, who helps manage C$750 million in assets, including Scotiabank stock, for Mavrix Fund Management Inc. in Toronto.

Scotiabank shares rose 95 cents, or 1.9 percent, to C$50.63 at 4:15 p.m. on the Toronto Stock Exchange, the biggest gain in more than six months. The stock has declined 2.8 percent this year.

Profit from Latin America and the Caribbean, excluding Mexico, led growth at the international unit, rising 71 percent to C$212 million. Profit from Mexico rose 5.7 percent to C$147 million as higher revenue was offset by rising costs for advertising and new branches.

Scotiabank is looking for acquisitions in all three of its main business units, Chief Executive Officer Richard Waugh said today at the annual meeting in Halifax, Nova Scotia. He didn't elaborate.

International expansion is tempering slower growth at home in consumer lending and asset management. Domestic consumer banking earnings rose 9.7 percent to C$363 million on higher fees from mortgages, credit cards, deposits and mutual funds.

The bank's mutual fund assets have climbed 10 percent in the last year, trailing the 21 percent growth at Royal Bank of Canada and 16 percent at Toronto-Dominion Bank, according to the Investment Funds Institute of Canada. Scotiabank was the 11th biggest mutual fund company at the end of February, below its four main bank competitors.

``The mutual fund offering has not been particularly strong,'' said Gavin Graham, chief investment officer at Guardian Group of Funds in Toronto, which manages about $5.1 billion in assets. ``Unlike Royal, TD and Bank of Montreal, they and CIBC have been suffering some market share losses because they haven't had a particularly compelling offering in that space.''

Scotiabank earned C$68 million in revenue from mutual fund sales, up 17 percent from a year earlier. Scotiabank said it's putting more emphasis on investment products as it plans to open 35 branches and add more than 300 salespeople in Canada in 2007.

Investment-banking profit increased 14 percent to C$296 million. The bank advised on eight mergers valued at $6.06 billion during the quarter, according to data compiled by Bloomberg, compared with six mergers valued at $1.76 billion a year ago.

Scotiabank set aside C$63 million for bad loans, compared with C$75 million in the year-earlier period. The bank said it may not be able to sustain the low level of provisions throughout the year. Total trading revenue slumped 25 percent to C$247 million.

The bank also applied for a license in Texas to be able to take deposits from corporate clients in the U.S., Stephen McDonald, co-head of Scotia Capital, said in a conference call with analysts.

Excluding one-time items, Bilodeau said Scotiabank earned C$1.02 a share, 8 cents more than his estimate. The bank didn't provide a comparable number on that basis. The bank was expected to earn 95 cents a share, according to the median estimate of 10 analysts polled by Bloomberg News. Overall revenue rose 14 percent to C$3.21 billion.

Bank of Nova Scotia is the fifth Canadian bank to top analysts' estimates in the first quarter, along with Royal Bank, Toronto-Dominion, Canadian Imperial Bank of Commerce and National Bank of Canada. Bank of Montreal met estimates.

The banks benefited from rising demand for mutual funds, sparked by higher stock prices. They also posted higher trading revenue and advisory fees, after mergers soared to a record in 2006.