The Canadian Imperial Bank of Commerce (CIBC) is one of the "Big Five" Canadian banks. It was founded in 1961 by the merger of the Canadian Bank of Commerce (founded 1867) and the Imperial Bank of Canada (founded 1875). Today, the CIBC is the fifth-largest of these by total revenue, earning $12.09 billion in FY2010 (PWC, 2011). This report will evaluate the CIBC in terms of a number of different factors in order make a judgment about the merits of investing in the bank's stock. The analysis will comprise of an industry analysis, a company analysis, and a valuation analysis.
According to the company's 2011 Annual Report, the CIBC earned total revenue of $12.249 billion in FY2011. This was split between interest income (51.8%) and non-interest income (48.2%). From this, the bank earned a net income of $3.079 billion. The recession years of 2008 and 2009 saw a sharp decline in the bank's revenue and profitability, from which the bank has recovered. Steep writedowns in FY2008 resulted in an operating loss, and revenues were down a couple of billion dollars in FY2009 from normal levels. Growth in both revenue and profit has since been restored. The decline, however, was largely an industry condition, but the major banks have responded differently to this challenge.
II. Industry Analysis
According to PWC (2011), the "five to six years ago, the Big Six banks looked similar, (but) now they have really differentiated themselves," referencing the National Bank as a member of the Big Six, despite not being national in scope and being significantly smaller in scale than the other five. As an example of this differentiation, TD has become a major player in retail banking in the United States, the Bank of Nova Scotia has begun extension expansion into the Asian market and all of the major banks are becoming more innovative not just with products and fees but in terms of where they compete and how.
The banking industry is always driven by the underlying economic conditions of the markets in which the bank operates. Canada is "well-positioned" with economic outperformance against its OECD peers. The company has a relatively low level of public debt compared with its peers, and has seen enough economic growth for the Bank of Canada to pull its target overnight rate off the zero bound. The Canadian dollar is gaining strength, and has spent much of the past several paths near parity with the U.S. dollar. Equity markets in both Canada and the U.S. have returned to pre-recession levels. The World Economic Forum has named Canada's banking system the most stable for three years running, something that lowers the borrowing costs for all Canadian banks. This also has facilitated Canadian banks entering a growth phase before many other world banks have been able to do so. This strength has reflected in the bottom line, with the Big Six enjoying a record profit (as a group) in 2010 (PWC, 2011).
The stricter regulatory environment has proven to be a boon to Canadian banks, allowing them to weather the recession well, and to be in a growth position now when many banks around the world are still faced with struggling external conditions. Bankers in Canada still claim they prefer to have less regulation, but that is more a meme repeated without any serious thought than something that should be taken seriously, given how well the strict regulatory environment has served Canadian banks in the past four years.
The economic environment is challenging. While most Canadian banks generate most of their earnings in Canada, most do significant business in the United States and elsewhere in the world. The Canadian economy is likely to improve in the next few years, but there are risks in the American and European economies that may yet create a situation where the CIBC faces obstacles to growth in the form of poorly-performing major economies elsewhere. The technological environment appears to support the growth of Canadian banks, and they are becoming adept at using new technologies to better serve customers and to generate revenues. The social environment remains mainly neutral. The Canadian public has become inured to bank fees, and ultimately there is little pressure to change the situation. Thus, the public may not like everything the banks do, but they do not act to bring about changes.
III. Company Analysis
According to the 2011 Annual Report, CBC's first strategic priority is to be a "low risk" bank, so the bank's actions and strategies are governed by the principle of reducing risk. The bank also outlines fives strategic priorities: cultivating deeper relationships with clients; focusing on value for clients; adding differentiated value; the pursuit of risk-controlled growth and continuous investment in the client base, people and infrastructure. Two of these statements provide the most insight into the bank's strategy. Low risk is obviously a key, and that fits well with the Canadian regulatory environment and the traditionally conservative culture of Canadian banks in general. The other is to offer differentiated levels of service, in the hopes that customers will be attracted by superior service compared with the service offered by the bank's major rivals. The bank does not appear to publish a mission or vision statement.
As noted above, the CIBC has seen a recovery of its revenues and earnings from the period of recession in FY2008 and FY2009. The bank had approximately $25 billion in subprime exposure, and this created a difficult situation for the company. It took a $6.7 billion writedown in 2008 and was forced to go to the primary market for new equity from investors (Mavin, 2008). There were subsequent writedowns as well, in order to account for the losses that the CIBC took on structured products containing subprime securities (Alexander, 2010).
While the past couple of years have seen an upward trend in the company's income, many of its metrics have not yet recovered to pre-recession levels. The bank's efficiency ratio is at 60.0%, compared with 63.1% in FY2007. The return on equity is 21.3%, compared with 28.7% in FY2007. Net interest margin is 1.74%, compared with 1.39% in FY2007. Total shareholder return in FY2011 was just 0.4%, compared with 20.2% in FY2007. The bank still have fewer deposits than it did pre-recession, although it has seen a full recovery in loans and acceptances. In addition, the Tier 1 capital ratio has improved significantly since 2007, to 14.7% from 9.7%. The total capital ratio has improved to 18.4% from 13.9%.
What these ratios tell us about CIBC is that the company is on an upward trend in its financial performance. The down years of FY2008 and FY2009 hurt the company considerably, and CIBC is still on the rebound. While a few metrics are back to pre-recession levels, most are not. However, those metrics that still lag historic performance do show a trend towards improvement, so it is reasonable to expect that they will return to pre-recession levels at some point in the near future.
IV. Intrinsic Value Forecasts
There are a number of ways to measure intrinsic value. The present value approach takes the approach that the company's future cash flows should be discounted back to the present day to derive the value of the company. However, this technique is not appropriate for a bank. Operating cash flows are negative, because the bank also has positive cash flow from investing activities. This makes it difficult to determine precisely what cash flows are part of the ongoing business because investing is a normal part of a bank's business. Based on operations alone, CIBC has no value, so investment flows need to be considered, but not all of them. Further, investments are not something that will return a stable amount over time, so it is silly to extrapolate one year's worth of investment returns in perpetuity.
The P/E model approach argues that the company should have a value that is in line with its competitors, based on its P/E. The P/E ratio for CIBC is 10.42. This is lower than that of most Canadian banks, but the Commerce is smaller and has a lower degree of international diversification. The P/E of the Royal is 18.87, for BMO it is 10.75, for BNS it is 11.93 and for TD it is 13.55. This implies that if anything, CIBC should see its stock price increase slightly, all other factors being equal.
Another approach for determining the future performance of a company's stock is the use the capital asset pricing model. This model assesses the risk associated with a company based on the historic performance of the company's stock vs. The broad market. The correlation of stock and market performance is known as the beta. The beta for CIBC is 1.33. The historic market risk premium in this case is taken as 7%, and the risk-free rate is 1%. The results of the CAPM calculation are as follows: