Should You Consider J.P. Morgan Despite Resurfacing Legal Issues?

J.P. Morgan has much more potential to increase its equity valuation by staying clear of lawsuits and reducing operating expenses.

Jun 18, 2014 at 10:42AM

J.P. Morgan (NYSE:JPM) is currently in the news again as the City of Miami sues the investment bank for its  predatory lending practices targeting minorities.

Though J.P. Morgan has had its fair share of legal troubles, the bank has now  worked through the majority of its legacy issues. With a top-tier return on tangible equity, further cost cutting potential and a focus on growing its business, J.P. Morgan is an interesting bank investment for long-term minded investors.

Legal troubles manageable
After J.P. Morgan settled with the Department of Justice for $13 billion over questionable mortgage practices at the end of last year, the investment bank managed to stay out of trouble for a while.

Bank of America (NYSE:BAC) and Citigroup (NYSE:C), on the other hand, are now making major news headlines and are also battling the Department of Justice to avoid further mortgage probes. While both companies remain eager to negotiate for lower settlement amounts, the DOJ certainly expects the companies to pay up.

Bank of America's and Citigroup's stand-off with the Department of Justice has led investors to ignore resurfacing legal troubles for J.P. Morgan. The city of Miami claims, that J.P. Morgan deliberately disadvantaged minorities from obtaining favorable loan conditions.

The AP reported, that J.P. Morgans discriminatory lending practices, according to the lawsuit, actually "worsened the foreclosure crisis in minority neighborhoods" and that loans "were disproportionately made in black and Hispanic neighborhoods with burdensome terms, leading to a far greater rate of foreclosures."

Tough accusations
At the moment, however, there is definitely not enough information out there to determine whether the lawsuit has any merit and J.P. Morgan is surely going to deny any accusations about predatory lending practices.

In any case, giving J.P. Morgan's track record in resolving legal issues, the current lawsuit is unlikely to have a serious bottom line impact for J.P. Morgan; thanks to the constructive settlement approach of Chief Executive Officer Jamie Dimon.

GSource: Wikimedia Commons, Jamie Dimon, Chief Executive Officer of J.P. Morgan

Strong potential to improve profitability
Though legal issues make for entertaining headlines, investors really should look at J.P. Morgan's underlying business performance.

Over the last four years, J.P. Morgan has largely suffered from a constantly increasing cost base. In 2010, J.P. Morgan's operating expenses were reported at $61.2 billion which have risen to $70.5 billion in 2013. J.P. Morgan's reported 2013 net income was roughly at the same level as it was in 2010, around $17-18 billion, even though its earnings have been quite volatile over the last four years.

With billions of dollars in potential cost savings from business simplifications and a likely end to multi billion dollar settlements, J.P. Morgan's equity valuation has much more room to grow and the bank should be able to focus on growth going forward.

Strong returns on tangible equity
Though J.P. Morgan has had some legal troubles in the past which clearly affected the bank's profitability, the investment bank still compares favorably against other banks in the financial sector.

Its return on tangible common equity, based on first quarter results, is actually the second highest in the peer group consisting of large-cap financial institutions.


Source: J.P. Morgan Investor Presentation Morgan Stanley Financials Conference

Final assessment
J.P. Morgan has a lot more potential to grow its equity valuation as it has already worked through a large pile of high-profile settlements while the current lawsuit is not likely to have a significant meaning for the bank's profitability. J.P. Morgan is among the most profitable banks with the second-highest return on tangible equity among financial institutions and, with a focus on further cost cuts, shares of J.P. Morgan have much more potential to rise.

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Kingkarn Amjaroen owns shares of Bank of America. The Motley Fool recommends Bank of America. The Motley Fool owns shares of Bank of America and Citigroup. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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