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As a small cap company operating in a heavily regulated financial services sector, an investment in Banca Monte dei Paschi di Siena S.p.A. (BIT:BMPS) has many factors to consider. One of the biggest risk it faces as a bank is bad loans, also known as credit risk. The ability for borrowers to repay their loans depends on the stability of their salary and interest rate levels which is impacted by macroeconomic events and in turn impacts the profitability of small banks. This is because bad debt is written off as an expense and impacts Banca Monte dei Paschi di Siena’s bottom line and shareholders’ value. Today we’re going to assess the level of bad debt and liabilities Banca Monte dei Paschi di Siena currently has in order to properly analyse the risk involved with investing in Banca Monte dei Paschi di Siena.
How Good Is Banca Monte dei Paschi di Siena At Forecasting Its Risks?
Banca Monte dei Paschi di Siena’s understanding of its risk level can be estimated by its ability to forecast and provision for its bad loans. If it writes off more than 100% of the bad debt it provisioned for, then it has inadequately estimated the factors that may have added to a higher bad loan level which begs the question – does Banca Monte dei Paschi di Siena understand its own risk? Banca Monte dei Paschi di Siena’s low bad loan to bad debt ratio of 60.39% means the bank has under-provisioned by -39.61%, indicating either an unexpected one-off occurence with defaults or poor bad debt provisioning.
What Is An Appropriate Level Of Risk?
If Banca Monte dei Paschi di Siena’s total loans are made up of more than 3% of bad debt, it may be engaging in risky lending practices above the judicious level. The bank’s profit is impacted by bad loans as these cannot be recovered by the bank and are expensed directly from its bottom line. Banca Monte dei Paschi di Siena’s bad debt ratio is greater than 10% which is unsustainably high and extremely risky, considering most banks exhibit ratios lower than the appropriate threshold of 3%. This means it shows very poor bad debt management and is exposed to a very chance of default.
How Big Is Banca Monte dei Paschi di Siena’s Safety Net?
Banca Monte dei Paschi di Siena profits from lending out its various forms of borrowings and charging interest rates. Deposits from customers tend to carry the lowest risk due to the relatively stable interest rate and amount available. As a rule, a bank is considered less risky if it holds a higher level of deposits. Banca Monte dei Paschi di Siena’s total deposit level of 69% of its total liabilities is within the sensible margin for for financial institutions which generally has a ratio of 50%. This indicates a prudent level of the bank’s safer form of borrowing and a prudent level of risk.
Although Banca Monte dei Paschi di Siena’s level of deposits to liabilities level is sufficient, it has taken on risk through high levels of bad debt and poor provisioning for their repayment. This may lead to lower than expected profits for Banca Monte dei Paschi di Siena. The potential for an adverse effect on Banca Monte dei Paschi di Siena’s cash flow diminishes our confidence in Banca Monte dei Paschi di Siena as a stock investment. Today, we’ve only explored one aspect of Banca Monte dei Paschi di Siena. However, as a potential stock investment, there are many more fundamentals you need to consider. Below, I’ve compiled three important factors you should further examine:
- Future Outlook: What are well-informed industry analysts predicting for BMPS’s future growth? Take a look at our free research report of analyst consensus for BMPS’s outlook.
- Valuation: What is BMPS worth today? Has the future growth potential already been factored into the price? The intrinsic value infographic in our free research report helps visualize whether BMPS is currently mispriced by the market.
- Other High-Performing Stocks: Are there other stocks that provide better prospects with proven track records? Explore our free list of these great stocks 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 email@example.com.