ETFC will go UP
$80.00 on 3/26/08
$25.51 (-30.30% from time of market call)
This week ETFC announced a realignment to focus on the retail business. Due to credit market turmoil, the company is taking a $325mm charge in 2007 and is reducing the midpoint of its guidance from $1.60 to $1.10.
Hypothetically, if we start at the midpoint of the 2007 guidance of $1.10 and add back the non-recurring earnings headwinds unusual to 2007 ($100mm-$150mm in provision for loan loss, $0mm-50mm in securities impairment and $32mm in restructuring charges), we arrive at a 2008 EPS estimate of $1.30, without assuming any business growth. With such an estimate for 2008 EPS is $1.30, the stock is currently trading around 7.3x 2008 P/E, way below its primary comps of TD Ameritrade at 14.2x and Charles Schwab at 17.6x.
ETFC has also indicated that if the entire $3.3bn ABS portfolio were to be sold into the marketplace today, it would likely require about a 350mm - $400mm markdown, well beyond the $100mm write-down the company will take this quarter. As the company is not in a liquidity crunch, such that it would be in a position of having to sell these investments to raise cash, it is valuing them with an eye to hold to maturity, and as such is writing them down on the basis of their reduced value from impairments of underlying collateral that could reduce future cash flows from these assets. This approach is more reflective of the true economics for ETFC, as the dislocated prices at which ABS trade currently in the market are not reflective of any prices the company is likely to realize. This actually highlights the difference in the way banks approach valuation of these securities versus a broker-dealer. Brokers, who hold these securities on their trading books are forced to write them down to prices that they would be able to sell them for. These opposing methodologies are likely to continue to spark controversy and raise questions around earnings quality in the weeks and months ahead.
I think that ETFC has sufficient liquidity to weather the current storm. Evidently, the FHLB concurs as it has raised the company's available borrowing capacity from $10bn to $13bn. EFTC's repo agreements are also primarily backed by AAA FNMA and GNMA securities. To date, ETFC has not seen material changes in its ability to fund its balance sheet either on the availability side or pricing.