Westamerica Bancorporation: Market’s Overreaction Creates Opportunity

Earnings of Westamerica Bancorporation (NASDAQ: NASDAQ:WABC) will most likely decline this year because of a lackluster growth of the balance sheet and a decline in the net interest margin. Overall, I’m expecting the company to report earnings of $5.40 per share for 2024, down 10.8% year-over-year. My valuation analysis shows that the market has overreacted to the prospects of an earnings dip this year. There may be some money to make here as the price corrects and gets closer to its fair value. As a result, I’m adopting a buy rating on Westamerica Bancorporation.

Expecting a Stable Balance Sheet

Although WABC’s loan portfolio continued to decline in the first quarter, the company managed to increase its asset size during the quarter. This is quite an achievement as the asset size has been decreasing for the last two years.

However, I don’t think the balance sheet can continue to grow at the first quarter’s rate in the year ahead because the operating environment continues to be challenging. Westamerica Bancorporation mostly operates in Northern and Central California, from Mendocino, Lake, and Nevada Counties in the north to Kern County in the south. Unemployment rates in the major cities and counties in Northern and Central California have been trending upward in recent months and are mostly worse than the national average, as shown below.

As a result, I think the balance sheet size will likely remain mostly unchanged for the remainder of this year. Further, I believe that loans will increase while securities will decrease because of the anticipated interest rate trend. I’m expecting the Fed funds rate to dip by 50-75 basis points this year, which will increase the demand for loans.

Overall, I’m expecting the loan book to grow by 1.2%, and securities to dip by 2.9% in 2024. The following table shows my balance sheet estimates.

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Further Margin Compression Likely

After a growth of 120 basis points last year, the net interest margin shrank by 11 basis points in the first quarter of 2024. I think the margin can continue to slip in the year ahead because funding costs are stickier than asset yields. The funding costs are downward sticky because WABC has a very low-cost deposit base. In fact, the company’s funding cost was just 0.22% during the first quarter of the year. As a result, it can’t fall much lower when interest rates start declining this year.

The average asset yield will likely dip this year because of loans, which make up around 15% of the company’s total earning assets. I’m expecting the Fed funds rate to decline by 50-75 basis points this year. As a result, I’m expecting the net interest margin to dip by around six basis points in the last nine months of 2024.

Expecting Earnings to Dip Because of a Negative Outlook on the Margin and Balance Sheet

I’m expecting the earnings of Westamerica Bancorporation to decline this year because the earning assets will most probably dip. Additionally, the net interest margin will likely trend downwards, which will hurt earnings. My margin and balance sheet estimates (discussed above) lead to a net interest income of $261 million. Further, I’m expecting that the declining trend for non-interest income will continue and the non-interest expense will continue to grow at a normal rate. For provisioning expenses, I’m expecting the first quarter’s rate to continue.

These assumptions lead to an earnings estimate of $5.40 per share for 2024, down 10.8% year-over-year. The following table shows my income statement estimates.

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Risks Attributable to the Securities Portfolio

Because most of Westamerica Bancorporation’s assets are in securities, the unrealized mark-to-market losses on the…