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Improving credit quality as a result of post-GFC recovery has led to a strong environment for growth in the banking sector. Economic growth impacts the stability of salaries and interest rate level which in turn affects borrowers’ demand for, and ability to repay, their loans. As a small-cap bank with a market capitalisation of US$164m, DNB Financial Corporation’s (NASDAQ:DNBF) profit and value are directly affected by economic activity. Risk associate with repayment is measured by the level of bad debt which is an expense written off DNB Financial’s bottom line. Since the level of risky assets held by the bank impacts the attractiveness of it as an investment, I will take you through three metrics that are insightful proxies for risk.
Does DNB Financial Understand Its Own Risks?
DNB Financial’s forecasting and provisioning accuracy for its bad loans indicates it has a strong understanding of its own risk levels. If the bank provisions for more than 100% of the bad debt it actually writes off, then could be considered to be relatively prudent and accurate in its bad debt provisioning. Given its high non-performing loan allowance to non-performing loan ratio of 115.5% DNB Financial has cautiously over-provisioned 15.5% above its current level of non-performing loans. This could indicate a prudent forecasting methodology, or indicate that further bad loans are expected.
How Much Risk Is Too Much?
If DNB Financial does not engage in overly risky lending practices, it is considered to be in relatively better financial shape. Loans that cannot be recuperated by the bank, also known as bad loans, should typically form less than 3% of its total loans. Loans are written off as expenses when they are not repaid, which comes directly out of DNB Financial’s profit. A ratio of 0.62% may indicate the bank faces relatively low chance of default and exhibits strong bad debt management - or it could indicate risks in the portfolio have not fully matured.
Is There Enough Safe Form Of Borrowing?
DNB Financial 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. The general rule is the higher level of deposits a bank holds, the less risky it is considered to be. Since DNB Financial’s total deposit to total liabilities is very high at 94% which is well-above the prudent level of 50% for banks, DNB Financial may be too cautious with its level of deposits and has plenty of headroom to take on risker forms of liability.
The recent acquisition is expected to bring more opportunities for DNBF, which in turn should lead to stronger growth. I would stay up-to-date on how this decision will affect the future of the business in terms of earnings growth and financial health. I’ve bookmarked DNBF’s company page on Simply Wall St to stay informed with changes in outlook and valuation. This is also the source of data for this article. The three main sections I’d recommend you check out are:
- Future Outlook: What are well-informed industry analysts predicting for DNBF’s future growth? Take a look at our free research report of analyst consensus for DNBF’s outlook.
- Valuation: What is DNBF 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 DNBF 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.
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If you spot an error that warrants correction, please contact the editor at firstname.lastname@example.org. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned. Thank you for reading.