Founded in 1916, Farmers & Merchants Bancorp (FMCB) is a locally owned and operated community bank with 32 locations in California, notes Ben Reynolds, editor of Sure Dividend.
Due to its small market cap ($606 million) and its low liquidity, it passes under the radar of most investors. Nevertheless, F&M Bank has paid uninterrupted dividends for 85 consecutive years and has raised its dividend for 55 consecutive years. As a result, it is a Dividend King.
F&M Bank is trading at a price-to-earnings ratio of 10.3, which is much lower than its 10-year average price-to-earnings ratio of 14.3. We assume a fair earnings multiple of 14.0 for this small-cap stock. If the stock reaches our fair value estimate over the next five years, it could enjoy a 6.3% annualized gain thanks to the expansion of its valuation level.
F&M Bank is a prudently managed bank, which has always targeted a conservative capital ratio. The bank currently has a tier 1 capital ratio of 10.8%, which results in the highest regulatory classification of “well capitalized”.
Moreover, its credit quality remains exceptionally strong, as there are no non-performing loans and leases in its portfolio. The conservative management results in lower leverage and thus slower growth than leveraged banks during boom times. On the other hand, this strategy protects the company from economic downturns.
The merits of this strategy were on display during the Great Recession. While most banks saw their earnings collapse, F&M Bank incurred a modest -9% decrease in its earnings-per-share, from $28.69 in 2008 to $25.57 in 2009, and kept raising its dividend. That was certainly outstanding performance in the struggling financial sector.
Overall, F&M Bank is a conservatively managed small-cap bank. After years of lackluster growth, the company has begun to pursue growth more aggressively.
As a result, F&M Bank could offer a 13.0% average annual return over the next five years. It thus maintains its buy rating, though investors should always keep in mind the risks of stocks with such a small market cap and low trading liquidity before initiating a position.
