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Bank stocks such as QCRH 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. Banks, for example, must hold certain levels of tiered capital in order to maintain a safe cash cushion. Focusing on factors like book values, as well as the return and cost of equity, may be practical for gauging QCRH’s valuation. Below I will take you through how to value QCRH in a relatively useful and simple method.
Why Excess Return Model?
Financial firms differ to other sector firms primarily because of the kind of regulation they face and their asset composition. United States’s financial regulatory environment is relatively strict. In addition, banks generally don’t hold significant portions of physical assets on their balance sheet. Therefore the Excess Returns model is appropriate for deriving the true value of QCRH as opposed to the traditional model, which puts weight on factors such as capital expenditure and depreciation.
How Does It Work?
The key assumption for this model 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 in excess of cost of equity is called excess returns:
Excess Return Per Share = (Stable Return On Equity – Cost Of Equity) (Book Value Of Equity Per Share)
= (0.12% – 11%) x $35.23 = $0.18
We use this value to calculate the terminal value of the company, which is how much we expect the company to continue to earn every year, forever. This is a common component of discounted cash flow models:
Terminal Value Per Share = Excess Return Per Share / (Cost of Equity – Expected Growth Rate)
= $0.18 / (11% – 2.7%) = $2.05
These factors are combined to calculate the true value of QCRH’s stock:
Value Per Share = Book Value of Equity Per Share + Terminal Value Per Share
= $35.23 + $2.05 = $37.29
This results in an intrinsic value of $37.29. Relative to today’s price of US$34.30, QCRH is currently trading in-line with its true value. This means QCRH isn’t an attractive buy right now. Pricing is only one aspect when you’re looking at whether to buy or sell QCRH. Analyzing fundamental factors are equally important when it comes to determining if QCRH has a place in your holdings.
For banks, there are three key aspects you should look at:
- 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.
- Future earnings: What does the market think of QCRH going forward? Our analyst growth expectation chart helps visualize QCRH’s growth potential over the upcoming years.
- Dividends: Most people buy financial stocks for their healthy and stable dividends. Check out whether QCRH is a dividend Rockstar with our historical and future dividend analysis.
For more details and sources, take a look at our full calculation on QCRH here.
To help readers see past 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. For errors that warrant correction please contact the editor at firstname.lastname@example.org.