As the world's third-richest person and most celebrated investor, Warren Buffett attracts a lot of attention. Thousands try to glean what they can from his thinking processes and track his investments.
We can't know for sure whether Buffett is about to buy Fifth Third Bancorp
Writing in a recent 10-K, Buffett lays out the qualities he looks for in an investment. In addition to adequate size, proven management, and a reasonable valuation, he demands:
- Consistent earnings power.
- Good returns on equity with limited or no debt.
- Management in place.
- Simple, non-techno-mumbo-jumbo businesses.
Does Fifth Third meet Buffett's standards?
1. Earnings power
Buffett is famous for betting on a sure thing. For that reason, he likes to see companies with demonstrated earnings stability.
Let's examine Fifth Third's earnings history:
Source: S&P Capital IQ.
Like the rest of the financial system, Fifth Third took a huge hit in 2008, though its earnings have recovered much quicker than most other banks. Nonperforming loans are elevated, but they're been steadily improving over the past few years.
2. Return on equity and debt
Return on equity is a great metric for measuring both management's effectiveness and the strength of a company's competitive advantage or disadvantage -- a classic Buffett consideration. When considering return on equity, it's important to make sure a company doesn't have an enormous debt burden, because that will skew your calculations and make the company look much more efficient than it is.
Since competitive strength is a comparison between peers, and various industries have different levels of profitability and require different levels of debt, it helps to use an industry context.
Fifth-Third generates fairly strong returns on equity -- 10% over the past year -- while employing a reasonably modest amount of leverage -- 9 times.
3. Management
CEO Kevin Kabat has been at the job since 2007. Before that, he'd held a few other positions at the company and has spent more than three decades in the banking industry.
4. Business
Although banking can become dangerous when bankers play around too much with new, complex, poorly understood products, that's less of an issue at regional banks.
The Foolish conclusion
So is Fifth Third a Buffett stock? Perhaps. It's recovered reasonably well from the financial crisis and exhibits some of the quintessential characteristics of a Buffett investment: a straightforward business, reasonably high returns on equity with limited leverage, and tenured management. If you're looking for some bank stocks that might interest Buffett, check out The Motley Fool's "The Stocks Only the Smartest Investors Are Buying," which details four excellent bank stocks. I invite you to read this special report for free by for free.
