Bank stocks such as BSRR are hard to value. This is because the rules banks face are different to other companies, which can impact the way we forecast their cash flows. For instance, banks must hold a certain level of cash reserves on the books as a safety precaution. Looking at line items such as book values, in addition to the return and cost of equity, is beneficial for assessing BSRR’s intrinsic value. Today I’ll determine how to value BSRR in a fairly effective and easy approach. Check out our latest analysis for Sierra Bancorp

What Model Should You Use?

Before we begin, remember that financial stocks differ in terms of regulation and balance sheet composition. BSRR operates in United States which has stringent financial regulations. Moreover, banks generally don’t possess substantial portions of physical assets as part of total assets. The Excess Returns model overcomes the required capital kept on hand and lack of tangibles by focusing on forecasting stable earnings, rather than less relevant factors such as depreciation and capex, which more traditional models focus on.

How Does It Work?

The central assumption for Excess Returns is, the value of the company is how much money it can generate from its current level of equity capital, in excess of the cost of that capital. The returns above the cost of equity is known as excess returns:

Excess Return Per Share = (Stable Return On Equity – Cost Of Equity) (Book Value Of Equity Per Share)

= (11.45% – 9.88%) * $18.82 = $0.3

Excess Return Per Share is used to calculate the terminal value of BSRR, which is how much the business is expected to continue to generate over the upcoming years, in perpetuity. This is a common component of discounted cash flow models:

Terminal Value Per Share = Excess Return Per Share / (Cost of Equity – Expected Growth Rate)

= $0.3 / (9.88% – 2.47%) = $3.98

Putting this all together, we get the value of BSRR’s share:

Value Per Share = Book Value of Equity Per Share + Terminal Value Per Share

= $18.82 + $3.98 = $22.8

Compared to the current share price of $27.17, BSRR is , at this time, priced in-line with its intrinsic value. Therefore, there’s a bit of a downside if you were to buy BSRR today. Valuation is only one part of your investment analysis for whether to buy or sell BSRR. Fundamental factors are key to determining if BSRR fits with the rest of your portfolio holdings.

Next Steps:

For banks, there are three key aspects you should look at:

1. Financial health: Does it have a healthy balance sheet? Take a look at our free bank analysis with six simple checks on things like bad loans and customer deposits.

2. Future earnings: What does the market think of BSRR going forward? Our analyst growth expectation chart helps visualize BSRR’s growth potential over the upcoming years.

3. Dividends: Most people buy financial stocks for their healthy and stable dividends. Check out whether BSRR is a dividend Rockstar with our historical and future dividend analysis.

For more details and sources, take a look at our full calculation on BSRR here.
To help readers see pass the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price sensitive company announcements.

The author is an independent contributor and at the time of publication had no position in the stocks mentioned.