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As a small-cap finance stock with a market capitalisation of US$139m, the risk and profitability of Two River Bancorp (NASDAQ:TRCB) are largely tied to the underlying economic growth of the region it operates in US. Since a bank profits from reinvesting its clients’ deposits in the form of loans, negative economic growth may lower deposit levels and demand for loan, adversely impacting its cash flow. After the GFC, a set of reforms called Basel III was imposed in order to strengthen regulation, supervision and risk management in the banking sector. These reforms target banking regulations and intends to enhance financial institutions’ ability to absorb shocks resulting from economic stress which could expose banks like Two River Bancorp to vulnerabilities. Its financial position may weaken in an adverse macro event such as political instability which is why it is crucial to understand how well the bank manages its risks. Sufficient liquidity and low levels of leverage could place the bank in a safe place in case of unexpected macro headwinds. Today we will be measuring Two River Bancorp’s financial risk position by looking at three leverage and liquidity metrics.
Why Does TRCB's Leverage Matter?
Banks with low leverage are better positioned to weather adverse headwinds as they have less debt to pay off. A bank’s leverage may be thought of as the level of assets it owns compared to its own shareholders’ equity. Though banks are required to have a certain level of buffer to meet its capital requirements, Two River Bancorp’s leverage level of 9.41x is very safe and substantially below the maximum limit of 20x. With assets 9.41 times equity, the banks has maintained a prudent level of its own fund relative to borrowed fund which places it in a strong position to pay back its debt in times of adverse events. If the bank needs to increase its debt levels to firm up its capital cushion, there is plenty of headroom to do so without deteriorating its financial position.
How Should We Measure TRCB's Liquidity?
Due to its illiquid nature, loans are an important asset class we should learn more about. Normally, they should not exceed 70% of total assets, however its current level of 83% means the bank has clearly lent out 12.99% above the sensible threshold. This means its revenue is reliant on these specific assets which means the bank is also more likely to be exposed to default compared to its competitors with less loans.
What is TRCB's Liquidity Discrepancy?
Banks operate by lending out its customers’ deposits as loans and charge a higher interest rate. These loans may be fixed term and often cannot be readily realized, conversely, on the liability side, customer deposits must be paid in very short notice and on-demand. The discrepancy between loan assets and deposit liabilities threatens the bank’s financial position. If an adverse event occurs, it may not be well-placed to repay its depositors immediately. Since Two River Bancorp’s loan to deposit ratio of 99% is higher than the appropriate level of 90%, this level places the bank in a relatively dangerous territory to go into negative discrepancy in liquidity. Essentially, for $1 of deposits with the bank, it lends out more than $0.9 which is risky.
Today, we've only explored one aspect of Two River Bancorp. However, as a potential stock investment, there are many more fundamentals you need to consider. I've put together three relevant aspects you should further examine:
- Future Outlook: What are well-informed industry analysts predicting for TRCB’s future growth? Take a look at our free research report of analyst consensus for TRCB’s outlook.
- Valuation: What is TRCB 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 TRCB 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.
We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.
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.