Back in March, I singled out BB&T (NYSE:BBT) as an All-Star Stock. This Southeast regional bank was well-positioned in growing markets and appeared to be reasonably valued. Eight months later, I still see value in the shares at today's price of $43. Let's see why.
Valuation made easy
I like to keep things simple. Here I used the Dividend-Discount Model (DDM), perhaps the easiest of all valuation techniques. DDM states that the value of a stock is simply the value of the dividends you receive. DDM works best for mature companies that pay dividends. As we know, dividends received in the future are worth less than dividends received today, so we have to make adjustments using a discount rate.
DDM requires that we estimate future dividends for BB&T. I assumed that BB&T continues to grow its $1.56 annual dividend 9% for the next five years, which is about the historical growth rate. If we discount those cash flows at 10%, we see that those five years of dividends are worth $7.59 today.
|
2007 |
2008 |
2009 |
2010 |
2011 |
Total | |
|---|---|---|---|---|---|---|
|
Dividends |
$1.70 |
$1.85 |
$2.02 |
$2.20 |
$2.40 |
$10.18 |
|
PV of Dividends |
$1.55 |
$1.53 |
$1.52 |
$1.50 |
$1.49 |
$7.59 |
OK, not that easy
What about after five years? It is hard to estimate dividends far out into the future, so I took a shortcut approach. Let's assume that after five years, we sell the stock. We won't receive any dividends past year five, but we will receive proceeds from the sale in 2011.
Pro forma earnings will be $4.86 in 2011 if BB&T grows earnings at the expected rate of 9%. BB&T generally carries a P/E ratio in the mid-teens, so we could potentially sell this stock for 13 times earnings in 2011, or $63.18 (that's $39.25 if discounted to today's dollars). Now we have an idea of the cash flows we would receive if we bought the stock today.
Still with me?
Let's put it all together. Here are the cash flows we receive over the next five years, discounted at 10%.
|
2007 |
2008 |
2009 |
2010 |
2011 |
Total | |
|---|---|---|---|---|---|---|
|
PV of Dividend |
$1.55 |
$1.53 |
$1.52 |
$1.50 |
$1.49 |
$7.59 |
|
PV Sale of Stock |
$39.25 |
$39.25 | ||||
|
Intrinsic Value |
$46.84 |
The magic number is $46.84 under these assumptions. Please note that I am not saying BB&T is worth this exact dollar amount. I used these tools to get a possible range for BB&T by varying the assumptions and trying some more complicated models. Conservative assumptions show BB&T is fairly valued, while more optimistic assumptions show it to be about 9% undervalued.
Your turn
If spreadsheets are not your thing, you can build your own dividend discount models using dividenddiscountmodel.com. It's as simple as plugging in your discount rate and your future earnings multiple; the website handles the rest. It is a great starting point for further research. Here are calculations for BB&T and competitors:
|
Intrinsic Value* |
Today's Price | |
|---|---|---|
|
BB&T |
$46.37 |
$43.06 |
|
Bank of America (NYSE:BAC) |
$67.28 |
$54.77 |
|
Wachovia (NYSE:WB) |
$68.93 |
$55.62 |
|
SunTrust (NYSE:STI) |
$72.36 |
$78.95 |
|
JPMorgan Chase (NYSE:JPM) |
$52.51 |
$47.61 |
Like all valuation methods, DDM should be used in conjunction with other valuation tools, qualitative research, and due diligence for best results. BB&T has its hands full with a flat yield curve and cooling housing market, which could affect growth rates. I will be taking a more qualitative look at BB&T myself in the near future. Stay tuned!
Related Foolishness:
- The Best Blue Chip for 2007: Bank of America
- BB&T's Balanced Attack
- 5 All-Star Stock Ideas
- Dividends Don't Lie
Bank of America and JPMorgan Chase are Motley Fool Income Investor recommendations. Click here to learn the ways of the dividend investor from senior analyst James Early.
Fool sector head Joey Khattab does not own any of the shares mentioned. The Fool has a disclosure policy.
