Investment Thesis: Recommendation: • Illusory Dividend Yield, Substantial Dividend Market Capitalization 2.09B Buy Income Shares Outstanding 137.98M Current Price: Regression Beta 0.55 $15.30 (2/17/2017) • Pristine Credit and Asset Quality Below 52-Week High -10.21% Target Price: 50-Day Moving Average $18.85 (+23%) 16.01 • Improving ROAE and ROAA year-over-year 200-Day Moving Average 14.71 Short Ratio • Efficiency Ratio 11.00 Forward P/E 23.5 • Loan Portfolio Poised to do Well in Rising- Rate Environment • Asymmetric Risk Profile, Optionality
Industry Overview & Valuation Drivers Undervalued Residential Lender well-positioned for rising rate environment, regulatory rollback • Industry Growth • Economic Growth • Interest Rate Behavior
Industry Overview & Valuation Drivers Undervalued Residential Lender well-positioned for rising rate environment, regulatory rollback • Industry Growth • Economic Growth • Interest Rate Behavior
Industry Overview & Valuation Drivers Undervalued Residential Lender well-positioned for rising rate environment, regulatory rollback • Industry Growth • Economic Growth • Interest Rate Behavior
Industry Overview: Regulatory Environment Undervalued Residential Lender well-positioned for rising rate environment, regulatory rollback • Regulatory Shake-Up • Durbin Amendment (Dodd- Agency Position Status Frank Law) Treasury Department Treasury Secretary Presidential appointment (Steven Mnuchin) Federal Reserve Board (FRB) Chair Chair Yellen’s term expires in February 2018 • Financial CHOICE Act Chairman Gruenberg’s term expires in Federal Deposit Insurance Corporation (FDIC) Chair November 2017 Office of the Comptroller of the Currency (OCC) Comptroller of the Currency Comptroller Curry’s term expires in March 2017 Consumer Financial Protection Bureau (CFPB) Director Director Cordray’s term expires in July 2018 Securities and Exchange Commission (SEC) Chair Chair White will resign in January 2017 Commodity Futures Trading Commission Chair Chairman Massad’s term expires in April 2017 (CFTC)
Company Overview Undervalued Residential Lender well-positioned for rising rate environment, regulatory rollback • Regional residential Source of Revenues Source of Funds savings and loans bank • Thrift-conversion and reorganization • Initial Public Offering in 2010 Interest-Earning Assets: 3.27% Interest-Bearing Liabilities: 1.30%
Risk Considerations Identifiable Operating & Investment Risk Profile Discontinued Interest Rate Risk High Daily Leverage Mgmt. Interest Rate Curve Interest Rates Competition from Financial CHOICE Flattens Normalize E-Lenders Act Probability Management Increasing Credit Corporate Tax Rates Chg. In Agency Moderate Retires Risk Cut Leadership Technological Slowing US Acquisition of obsolescence Economy Another Bank Interest Rates Cyber Security Additional Low Home Sales Decline Historic Lows Breach Regulation Minor Moderate Major Impact to Profitability
Financial Analysis $10B Threshold Implications Average Credit Score at Origination • Actual Asset Levels Vs. Average Levels • Sound Credit Quality of Assets • Judicious Interest Rate Risk Management 11.00 10.00 Total Assets 9.00 8.00 2012 2013 2014 2015 2016 Regulatory Threshold Total Assets
Financial Analysis Net Interest Margin Optimal Efficiency Levels • Improving “Spread” Income • Operating Expense Management • Cost of Funds • Homogenous Loan Structures • Daily Leverage Strategy • Minimal Net Charge-Offs • Balance Sheet Leverage Strategies
Financial Analysis Interpreting Capital Levels Total Capital ratio • Dividend Longevity Tier 1 Capital ratio • Increasing Acquisition Attractiveness Minimum Well Capitalized • Book Value vs. Tangible Book Value CET1 Capital ratio Capitol Federal • Tier 1 and Risk Based Capital Tier 1 Leverage ratio 0.0% 5.0% 10.0% 15.0% 20.0% 25.0% 30.0% 35.0% 2012 2013 2014 2015 2016 Amount Per Share Amount Per Share Amount Per Share Amount Per Share Amount Per Share Regular quarterly dividends paid Quarter ended March 31 12,145 0.075 11,023 0.075 10,513 0.075 11,592 0.085 11,305 0.085 Quarter ended June 30 11,883 0.075 10,796 0.075 10,399 0.075 11,585 0.085 11,314 0.085 Quarter ended September 30 11,402 0.075 70,703 0.075 10,318 0.075 11,385 0.085 11,323 0.085 Quarter ended December 31 11,223 0.075 10,754 0.075 10,226 0.075 11,303 0.085 11,363 0.085 True-up dividends paid 26,585 0.18 25,815 0.18 35,450 0.26 33,248 0.25 38,835 0.29 Earnings Dividend 0.48 0.48 0.56 0.59 0.63 True Blue dividends paid (Capital Distribution) 76,494 0.52 35,710 0.25 34,663 0.25 33,924 0.25 33,274 0.25 Calendar year-to-date dividends paid 149,732 1.00 164,801 0.73 111,569 0.81 113,037 0.84 117,414 0.88 Earnings Dividend, % of total dividend 48.00% 65.75% 69.14% 70.24% 71.59%
Valuation: Comparable Method Comparable Method Selection Criteria: • Peer Group • Similar levels of Excess Capital • Washington Fed • Active Dividend • Third Federal • Federal Home Loan Bank membership • Northwest Savings • Total Assets near $10 Billion • Columbia Banking • Saving & Loans, not Commercial Banks Updated 2/15/2017 5-yr Average Operating Name Ticker Share Price Market Cap (B) Price/Earnings Price/Book Price/TBV Dividend Yield Buyback Yield Payout Ratio 1)Washington Federal Inc. WAFD $34.10 18.33 1.53 1.79 1.95% 3.32% 26.10% 3,045 2)Third Federal Savings & Loan TFSL $17.46 60.21 2.95 3.32 1.70% 2.66% 102.54% 4,949 3)Northwest Savings Bank NWBI $17.59 42.90 1.55 2.15 3.93% 1.91% 91.74% 1,789 4)Columbia Banking System Inc COLB $40.84 23.25 1.86 2.71 1.89% 0.05% 33.63% 2,371 Average $27.50 3,038 36.17 1.97 2.49 2.37% 1.98% 63.50% Capitol Federal Financial, Inc. CFFN $15.19 24.48 1.53 1.69 5.79% 4.71% 151.04% 2,097 CFFN Implied Share Prices: $22.45 $19.58 $22.46 Average: $21.50 % difference: 47.8% 28.9% 47.9% Average: 41.5%
Valuation Recommendation: Gordon Growth Model Dividend Discount Buy Model $50.00 Current Price Current Price: $45.00 • 0-1% div growth 0 Div Growth $15.30 (2/17/2017) 1% Div Growth Our Price $40.00 Target Price: • 1%-2% div growth 2% Div Growth $18.85 (+23%) $35.00 3% Div Growth Income Growth • 1.8% last 3 years $30.00 $25.00 Cost Of Equity $20.00 Low High $15.00 Risk Free Rate 2.5% 2.5% $10.00 Beta 0.49 0.82 $5.00 Market Risk 5.3% 5.3% Premium $0.00 5.1% 6.9% 7.00% 6.50% 6.00% 5.50% 5.00% Round 5.0% 7.0% Cost of Equity
Valuation Recommendation: Excess Return Price per ROE Buy Model $25.00 Current Price Current Price: • Avg. 8% ROE based on price $15.30 (2/17/2017) Our Price • Avg. 10% ROE base price $20.00 Target Price: $18.85 (+23%) Avg. of US Banks ROE • 9.07% (per St. Louis Fed) $15.00 Previous Return on Equity $10.00 2014 2015 2016 Avg. Inc. ROE 4.9% 5.1% 5.7% 8.2% $5.00 6.00% 7.00% 8.00% 9.00% 10.00% Estimated Return on Equity Return On Equity 2017 2018 2019 2020 2021 ROE 5.9% 8.9% 9.4% 10.3% 10.7% 7 % COE 6 % COE 5 % COE
Valuation – Recent Events • 11/8/2016 – Presidential Election • 12/14/2016 – Fed Raises Rates 25bp • 12/28/2016 – Stock Hits All Time High ($16.92) • 1/27/2017 – Reported EPS of $0.15 vs. Consensus EPS Forecast of $.16; buying opportunity Fed Raises Rates High Trump Elected Missed EPS President $15.29
Valuation: Factors (Post Election) Post election biggest factors Corporate Tax Cuts 1. Decreased regulations • Average Tax Rate = 32.2% last 3 years 2. Potential corporate tax cut • Potential Tax Cuts from 35% to 25%, 20%, or 15% • Tax Cuts to 25% = $7.96m or 10% increase to 2016 Income • Tax Cuts to 15% = $20.154m or 24% increase to 2016 Income Tax Cut Affect on 2016 Decreased Regulations / Lower Compliance Costs Income • “Compliance Costs estimated at 3%-6% of Total Non-Interest Net Income *in thousands 120000 Expense” 100000 80000 60000 40000 3% 6% 20000 0 Estimated Compliance Costs $2,829,150 $5,658,300 Current 25% Tax 15 % Tax 25% Cut $2,121,862 $4,243,725 Effects on DDM/Excess Return Valuation Savings Per Year $707,287 $1,414,575 *If maintain current 100% payout (Base Case – 6% COE) • Paid $112M dividends in 2016, at most increases dividend from Corporate Tax Change $.84 to $.85 per share. 25% 20% 15% DDM +$1.98 +$3.36 +$4.74 Excess Return +$2.03 +$3.46 +$4.92
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