In one of the biggest upsets of the second-quarter earnings season so far, much-
Charter One Financial
has warned it will report lower-than-expected year 2000 earnings after it slams the brakes on its lending operation.
On twice-average volume, Charter One stock skidded 2 15/16, or 12%, to close at 21 1/4 Wednesday. It's still up 10% this year.
Higher interest rates have made prospective loan profits unattractively slim, leaving the bank with "limited opportunities" for adding new loans to its balance sheet, Charles Koch, Charter One's chairman and chief executive, said Tuesday evening in an earnings press release.
The release from the thrift-turned-bank said earnings for the rest of 2000 would be around 10% more than those reported for the second half of 1999. Translation: Cleveland-based Charter One thinks it can earn about $2.20 a share this year on an operating basis, excluding the effect of the stock buyback also announced Tuesday. That's 6% down from the $2.35 per share analysts had previously expected in 2000, according to
First Call/Thomson Financial
"I don't think anyone expected anything of this magnitude," says Mark Davis, head of research for the
Banc Stock Group fund, which doesn't hold Charter One shares.
Charter One's lending go-slow signal will reverberate around the bank sector. It will unnerve many that an industry poster child for growth has been hit hard by the
Fed's recent interest rate hikes. Analysts had been expecting Charter One to boost earnings by as much as 18% this year, which is well above average for both the thrift and bank sectors. Now, profits will likely grow 10%.
Charter One's strategy for faster profits appreciation is to diversify out of traditional thrift products, like mortgages, and into higher-yielding consumer loans, which it calls energized assets. These now occupy half of the bank's loan book. Loans totaled $23.5 billion in the second quarter, up 6.5% from $22 billion in the year-earlier period. But this didn't aid net interest income, which slipped 2% to $221 million in the latest period. And the profit margin on the bank's loans has rapidly worsened, slipping to 3.02% in the second quarter, from 3.26% in the first. The reason? The money the bank borrows to lend on has gotten more expensive.
Banc Stock Group's Davis wonders why the bank didn't alert investors earlier to the pressures it's facing. "They didn't give a heads up to anybody," he says. "That will hurt their credibility." A bank spokeswoman suggests that the bank didn't guide analysts toward 18% earnings growth in 2000. She explains that the bank told investors in the third week of January that it would be hard to register a 13% earnings advance if the Fed put up interest rates by more than half a percentage point, which, of course, it did, raising its key rate by a full percentage point since then.
However, Charter One, with $32 billion in assets, has some loyal fans who think the market's overreacting. Carl Dorf, a manager of the
Pilgrim Bank & Thrift fund, says the decision to reduce loan supply is smart in the current environment. "At least they didn't leverage up to get growth like some thrifts," he says. (Dorf's fund owns shares in Charter One.)
The manager sees the weakness in Charter One shares as an opportunity to buy. The higher rates should begin to benefit the bank by the end of this year, as it passes on its higher interest costs to borrowers.
Charter One posted second-quarter operating earnings, excluding merger-related charges, of $117.5 million, or 56 cents a fully diluted share, matching First Call estimates. This was 12% higher than the 50 cents earned in the year-ago quarter. In addition, credit quality in the second quarter stayed strong, while expense control was tight. "There aren't many banks with 12% earnings growth, and yet today we lost 10%" of market capitalization, the bank's spokeswoman remarks.