Dividend Kings In Focus: Commerce Bancshares

The Dividend Kings are an exclusive group of dividend stocks that satisfy our most stringent criteria for dividend history.

More specifically, each Dividend King has increased its dividend for a remarkable 50 consecutive years. You can see the full list of all 45 Dividend Kings here.

Commerce Bancshares (CBSH) is one example of a slow-and-steady Dividend King. With that said, the company flies under the radar of many dividend growth investors because it has a low market capitalization of just over $8 billion.

In this article, we will examine Commerce Banchshares’ investment appeal by considering its business model, growth prospects, and expected returns.

Business Overview

Commerce Bancshares has an easy-to-understand business model. The company is a bank holding company whose principal subsidiary is Commerce Bank.

Source: Investor Presentation

Commerce Bank offers general baking services to both retail and business customers, with offers ranging from retail and corporate banking to asset management and investment banking. Commerce Bank was founded in 1865 and operates branches in the following states:

  • Colorado
  • Missouri
  • Kansas
  • Illinois
  • Oklahoma

Commerce Bancshares reported its third-quarter earnings results on August 5th. The company generated revenues of $371 million during the quarter, which was up 7% from the previous year’s quarter. At the end of the quarter, Commerce Bancshares’ loan portfolio totaled $15.7 billion, while deposits stood at $27.6 billion.

Loans were up 3.3% sequentially and higher marginally on a year-over-year basis to $15.7 billion. Commerce Bancshares’ provisions for loan losses increased versus the previous year, when there was a loan loss reserve release. 

Commerce Bancshares generated earnings–per–share of $0.96 during the third quarter, which was down 1% compared to the previous year’s quarter. Earnings-per-share were lower by 30% compared to the second quarter of the current year, primarily due to the loan loss reserve release one year ago. It is expected that profits will decline this year on the back of lesser benefits from provision releases. 

Growth Prospects

Commerce Bancshares has a solid if unspectacular growth track record. Since 2008, the bank increased its earnings-per-share by 7% per year.

Looking ahead, Commerce Bancshares’ growth prospects have not changed by much over the last decade. The bank’s growth continues to be dependent on many factors.

First, the net interest margin represents the spread between the interest rates it pays on its deposits and the interest rates it earns on its loans. The rise in interest rates should generally be a positive tailwind for the nation’s banks, as their net interest margin would expand.

Loan growth is another way to grow revenue. The company has steadily grown its loan portfolio in the past five years.

Source: Investor Presentation

Overall, we believe the company is likely to nearly replicate its historical growth moving forward, and are forecasting 6% growth in earnings-per-share through the next half-decade.

Competitive Advantages & Recession Performance

Commerce Bancshares is a well-run bank, which provides a meaningful competitive advantage. The company has strong fundamentals. This includes an above–average return on equity, which was 14% before the pandemic. This is quite attractive versus the ROEs that many of its peers achieve.

Commerce Bancshares’ capitalization is healthy as well, with the company having a tier 1 leverage ratio of ~9%. Commerce Bancshares’ credit quality is strong, as net charge–offs are at a below–average level compared to most peers.

Commerce Bancshares performed exceptionally well during the last recession compared to its peers in the lending industry. The company’s earnings trajectory during the 2007-2009 financial crisis is shown below:

  • 2006 adjusted earnings-per-share: $1.72
  • 2007 adjusted earnings-per-share: $1.65
  • 2008 adjusted earnings-per-share: $1.52
  • 2009 adjusted earnings-per-share: $1.33
  • 2010 adjusted earnings-per-share: $1.71
  • 2011 adjusted earnings-per-share: $2.00

Commerce Bancshares’ adjusted earnings-per-share declined by 19.4% peak-to-trough during the worst of the Great Recession during a time period when many larger lenders executed recapitalization programs that were devastating to continuing shareholders.

Perhaps more importantly, Commerce Bancshares continued its multi-decade streak of consecutive dividend increases. Because of this, we believe the company will perform very well during any future economic downturns.

Valuation & Expected Returns

As with all common equities, Commerce Bancshares future returns can be estimated by looking at each of the three contributors to returns: dividends, earnings growth, and valuation changes.

Dividend payments are the most predictable contributor to total returns. Commerce Bancshares stock currently has a 1.5% dividend yield. Commerce Bancshares has raised its dividend for 53 consecutive years.

The second-most predictable source of returns is earnings-per-share growth. We expect 6% annual earnings growth over full economic cycles.

Lastly, future returns are determined in part by changes in the valuation multiple. Commerce Bancshares is expected to earn $4.00 of earnings-per-share in 2022. This means that the stock is trading at a price-to-earnings ratio of 17. The longer–term median earnings multiple is in the mid–teens, and we believe that shares would be fairly valued at a price-to-earnings multiple of 14.

If the company’s valuation were to contract from 170 times earnings to 14 over the next five years, this would reduce the company’s returns by 3.8% annually.

Therefore, total returns would consist of the following:

  • 6% earnings growth
  • 1.6% dividend yield
  • -3.8% multiple reversion

Commerce Bancshares are expected to provide a total return of 3.8% annually through 2027. Because of this high valuation, the bank gets a sell recommendation from Sure Dividend at the current valuation.

Final Thoughts

Commerce Bancshares has a dividend history that few companies in the financial services industry can match. Unfortunately, the company’s valuation is even richer than its dividend history. We suspect that valuation contraction will be a negative contributor to Commerce Bancshares’ future returns.

The stock has an above-average valuation and is expected to produce solid earnings growth, but the over-valuation makes shares unappealing in our view.

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