Citigroup (C) is one of the world’s largest banks, with over $2.4 trillion in assets, asserts Bruce Kaser, a long-standing expert on finding undervalued investment opportunities, and the editor of Cabot Value Stocks.
The bank’s weak compliance and risk-management culture led to Citi’s disastrous and humiliating experience in the 2009 global financial crisis, which required an enormous government bailout.
The successor CEO, Michael Corbat, navigated the bank through the post-crisis period to a position of reasonable stability. Unfinished, though, is the project to restore Citi to a highly profitable banking company, which is the task of new CEO Jane Fraser.
In July, Citi reported adjusted earnings of $1.37/share, down 37% from a year ago and missing the $1.44 estimate by about 5%. Profits were weighed down by lower revenues (down 1%), higher operating expenses (+9%) and higher credit costs (+43%).
With a weak 5.6% return on equity and still deep into its tech, compliance, personnel and strategy upgrade, Citi has a long way to go to becoming a higher-value bank.
However, the bank appears to be on the right track, is retaining its deposit base, has reasonably healthy credit and capital, generally backs its full-year guidance, and its shares remain heavily discounted.
Citigroup, like other major banks, will likely be required to hold additional capital when the new Basel III rules are fully implemented here in the United States.
Citi shares have 79% upside to our $85 price target. The shares remain attractive as they trade at 56% of tangible book value of $85.34. The recently raised $0.53 quarterly dividend looks sustainable and offers investors a 4.5% yield.
When comparing Citi shares with a U.S. 10-year Treasury bond, Citi offers a higher yield and considerably more upside price potential (over 70% according to our work vs. 0% for the Treasury bond).
Clearly, the Citi share price and dividend payout carry considerably more risk than the Treasury bond, but at the current valuation Citi shares would seem to have a remarkably better risk/return trade-off. We are retaining our Buy rating.
