Cullen/Frost on Wednesday priced a $150 million perpetual preferred stock offering with a coupon of 5.375% and said it planned to use $144 million of the net proceeds to buy back roughly 4% of its common shares. The common shares closed at $61.25 Wednesday, trading for twice their tangible book value and for 15.2 times the consensus 2014 EPS estimate of $4.03, according to Thomson Reuters.
Those valuations are high. Of course, Cullen/Frost has been a steady performer, with operating returns on average assets (ROA) ranging between 1.12% and 0.123% over the past five years, according to Thomson Reuters Bank Insight. But there are other strong banks trading at lower multiples.
Wells Fargo (WFC - Get Report), for example, closed at $35.23, trading for 1.6 times tangible book value and 9.1 times the consensus 2014 EPS estimate of $3.89. Wells Fargo's ROA has ranged between 0.44% and 1.41% over the past five years, but the lowest return was in 2008, during the worst of the credit crisis. The ROA improved to 0.97% in 2009 and increased steadily to 1.44% last year.Another example is U.S. Bancorp (USB - Get Report) of Minneapolis. The company has been the strongest and steadiest performer among the nation's largest banks, with ROA ranging from 0.82% to 1.62% over the past five years. The 0.82% return was in 2009 and the 1.62% return was for 2012. USB's shares closed at $33.93 Wednesday, trading for a high 2.7 times tangible book value, but a far more modest 10.3 times the consensus 2014 EPS estimate of $3.29. It would seem that long-term investors are quite pleased with Cullen/Frost's predictable earnings. So why would the company buy back common shares at such high valuations?
The Collins Amendment and the Federal Reserve
For starters, Cullen/Frost saw fit to issue non-cumulative perpetual preferred shares to lock in some relatively low-cost regulatory capital. Under the Federal Reserve's new capital rules proposed last June, about 1.5% of most banks' regulatory Tier 1 common equity ratios can be made up of non-cumulative perpetual preferred shares. KBW analyst Jefferson Harralson on Thursday said in a report that "CFR likes swapping out 12% cost of capital for sub-5.5% cost of capital."