One of the biggest risk Banco de Sabadell, S.A. (BME:SAB) faces as a bank is bad loans, also known as credit risk. As a small cap stock in the heavily regulated financial services sector, its stock has many factors to consider. Small banks are directly affected by macroeconomic events as the ability for borrowers to repay their loan depends on the stability of their salary and level of interest rates. Since bad debt is written off as an expense, it impacts Banco de Sabadell’s bottom line and shareholders’ value. Today we’re going to assess the level of bad debt and liabilities Banco de Sabadell currently has in order to properly analyse the risk involved with investing in Banco de Sabadell.
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Does Banco de Sabadell Understand Its Own Risks?
Banco de Sabadell’s understanding of its risk level can be estimated by its ability to forecast and provision for its bad loans. The bank has poorly anticipated the factors contributing to higher bad loan levels if it writes off more than 100% of the bad debt it provisioned for. This begs the question – does Banco de Sabadell understand the risks it has taken on? Banco de Sabadell’s low bad loan to bad debt ratio of 56.8% means the bank has under-provisioned by -43.2%, indicating either an unexpected one-off occurence with defaults or poor bad debt provisioning.
How Much Risk Is Too Much?
Banco de Sabadell is seen as engaging in imprudent risky lending practices if bad loans make up more than 3% of its total loans. Bad loans are those that cannot be recovered and are directly expensed from the bank’s bottom line. Bad debt makes up 4.51% of the bank’s total assets which is above the appropriate level of 3%. Given that most banks are generally well-below this threshold, Banco de Sabadell faces a much higher level of risk and exhibits below-average bad debt management.
Is There Enough Safe Form Of Borrowing?
Banco de Sabadell operates by lending out its various forms of borrowings. Customers’ deposits tend to carry the smallest risk given the relatively stable interest rate and amount available. The general rule is the higher level of deposits a bank holds, the less risky it is considered to be. Banco de Sabadell’s total deposit level of 81% of its total liabilities is very high and is well-above the sensible level of 50% for financial institutions. This may mean the bank is too cautious with its level of its safer form of borrowing and has plenty of headroom to take on risker forms of liability.
Although Banco de Sabadell’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 Banco de Sabadell. This possibility of an undesirable impact on cash flow lowers our conviction in Banco de Sabadell as an investment. Today, we’ve only explored one aspect of Banco de Sabadell. However, as a potential stock investment, there are many more fundamentals you need to consider. There are three essential factors you should look at:
- Future Outlook: What are well-informed industry analysts predicting for SAB’s future growth? Take a look at our free research report of analyst consensus for SAB’s outlook.
- Valuation: What is SAB 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 SAB 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 firstname.lastname@example.org.