Canada's Toronto-Dominion Bank (TD 0.81%) has a long history of growing in the U.S. market through the acquisition of smaller regional banks. Additions like the South Financial Group and Commerce Bank are the big examples. And yet, Toronto-Dominion just had a major merger deal effectively shot down by U.S. regulators.
What's the big takeaway from this apparent setback for Toronto-Dominion Bank?
The best-laid plans
In February 2022, Toronto-Dominion Bank, which is also known as just TD Bank, agreed to buy First Horizon (FHN 1.91%) for $13.4 billion. The goal of the deal was to expand the Canada-based institution's business in key markets in the Southeastern U.S. TD Bank's U.S. subsidiary is a predominantly East Coast banking franchise, so the deal would have been complimentary in nature. Then the regional banking crisis hit in 2023 and regulators seemed to be dragging their feet. But according to recent media reports, the key issue was that U.S. regulators had concerns about the way TD Bank handles anti-money-laundering issues.
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There were rumors that the deal would be renegotiated. But, in the end, it was simply scuttled, with TD Bank paying First Horizon a breakup fee of $200 million in addition to $25 million to reimburse it for certain costs related to the now-canceled deal. The companies publicly blamed uncertainty about the regulatory timetable, noting that this uncertainty was unrelated to First Horizon.
The now-canceled deal could be a potential double whammy for TD. First off, the expected growth the deal might have generated is now off the table. Second, if the anti-money-laundering concerns are substantive, then it's possible that TD Bank won't be able to get any material mergers done in the United States until it satisfies regulators that it has resolved them. The bank isn't really talking about the ins and outs of the flubbed merger, but investors would be wise to keep listening for news here.
Not done yet
But don't think that TD Bank is now uninvestable. In fact, in some ways, it's an even more attractive buy now than it was before. Given the uncertainty around banks and the economy today, it is notable that TD Bank has a Tier 1 Capital Ratio of 15.5% -- the second-highest in North America. To simplify, the Tier 1 ratio is a measure of how well prepared a bank is to handle adversity, and higher numbers are better.
It built up its Tier 1 level largely in preparation for the merger. But now that it isn't taking place, TD Bank is better positioned than almost all of its peers to handle the stresses in the banking environment now. That's a net positive for investors, particularly those with a conservative bent.
On the growth front, TD Bank announced that it plans to open 150 new branches in the U.S. between now and 2027. Many of those locations are likely to be in the same regions in which it would have acquired First Horizon branches. So its growth is not over, it's just changed shape. To be fair, opening a new branch is costly upfront since that branch's deposits basically start at zero. So those 150 branches will be a drag on performance for a while before they start adding to the top and bottom lines. That's not as attractive as buying an up-and-running operation.
However, the really important takeaway is that TD Bank is still financially strong (perhaps stronger than it would have been if it had completed the merger), and growth in the U.S. market remains a key and achievable goal. Given the stock's relatively high yield of 4.8% (for comparison U.S. banking giants Bank of America and Citigroup have 3% and 4.3% yields, respectively) there's no material reason for current shareholders to jump ship now and the high yield offers some incentive for new investors to buy in right now.
Slower isn't necessarily a bad thing
TD Bank traces its history back to 1855. It has been through hard times before, including the Great Depression and the Great Recession. While the failure of its attempted merger with First Horizon is not good, it is likely to be just a speed bump on its road to growth. In fact, given the economic and banking backdrops, slowing things down might actually be a net win for TD Bank and its investors.
