LONDON -- If you're interested in building a profitable, diversified portfolio, then you will often need to compare similar companies when choosing which share to buy next. These comparisons aren't always as easy as they sound, so in this series, I'm going to compare some of the best-known names from the FTSE 100, FTSE 250 and the U.S. stock market.
I'm going to use three key criteria -- value, income, and growth -- to compare companies to their sector peers. I've included some U.S. shares, as these provide U.K. investors with access to some of the world's largest and most successful companies. Although there are some tax implications to holding U.S. shares in a U.K. dealing account, they are pretty straightforward and -- I feel -- are outweighed by the investing potential of the American market.
Today, I'm going to take a look at the U.K.'s biggest banking bailout recipient, Royal Bank of Scotland Group (NWG 0.04%) (NWG -0.48%), and a U.S. bank in which billionaire investor Warren Buffett has approximately an 8% stake -- making it one of his biggest four investments -- Wells Fargo (WFC -0.15%).
1. Value
The easiest way to lose money on shares is to pay too much for them -- so which share looks better value, RBS or Wells Fargo?
| Value | RBS | Wells Fargo |
|---|---|---|
| Current price-to-earnings ratio (P/E) | n/a | 11.0 |
| Forecast P/E | 10.3 | 10.2 |
| Price-to-book ratio (P/B) | 0.5 | 1.4 |
| Price-to-sales ratio (P/S) | 1.0 | 2.3 |
On paper at least, RBS is a much more compelling value investment than Wells Fargo, as it trades at around half its book value and just one times its annual revenue. Consensus forecasts suggest that RBS may return to profit this year, and while this is far from certain, it does look more likely than at any previous time since the bank was bailed out in 2008.
A return to profitability will be the first step on the road back to normality for RBS -- it doesn't currently pay a dividend and is 82%-owned by the U.K. government -- and could encourage big institutional investors to move back into the stock, which would help lift the company's share price closer to its book value.
2. Income
With low interest rates set to continue for the foreseeable future, dividends have become one of the most popular ways of generating an investment income. How do RBS and Wells Fargo compare in terms of income?
| Value | RBS | Wells Fargo |
|---|---|---|
| Current dividend yield | 0% | 2.5% |
| 5-year average historical yield | 0% | 2.3% |
| 5-year dividend average growth rate | n/a | -5.7% |
| 2013 forecast yield | 0.06% | 2.7% |
Wells Fargo is a clear winner in terms of income -- although its 2.5% yield is fairly modest by U.K. standards, RBS pays no dividend and is unlikely to pay a meaningful dividend for another year or two, if not longer.
3. Growth
Even if your main interest is value or income investing, you do need to consider growth. At the very least, a company needs to deliver growth in line with inflation -- and realistically, most successful companies need to grow ahead of inflation if they are to protect their market share and profit margins.
How do RBS and Wells Fargo shape up in terms of growth?
| Value | RBS | Wells Fargo |
|---|---|---|
| 5-year earnings-per-share growth rate | n/a | 7.2% |
| 5-year revenue growth rate | -10.5% | 6.6% |
| 5-year share price return | -90.8% | 14.3% |
Once again, Wells Fargo is a clear winner. Although RBS has reduced the scale of its losses, it has not managed to return to profitability yet. RBS has also seen its revenue fall as it has divested non-core and high-risk assets from its business, whereas Wells Fargo has delivered steady earnings and revenue growth.
A look at the two companies' share price charts is also instructive -- while both banks' share prices collapsed in 2008/9, Wells Fargo's climbed back up again and has since made modest gains, whereas RBS's share price has continued to weaken, as one scandal after another has dragged out the bank's troubles over several years.
Should you buy RBS or Wells Fargo?
There's no doubt that U.S. banks appear to have taken their medicine -- in the form of mortgage losses and writedowns -- and recovered much faster than their U.K. counterparts. Wells Fargo is an attractive option for investors seeking growth and income, and its forward price to earnings ratio of 10.2 looks quite affordable; it's a classic Warren Buffett choice.
RBS, on the other hand, offers no income and remains a recovery play -- but while it could still have some undiscovered skeletons in its closets, I suspect the worst is now over. If you are looking for a recovery or value investment in the financial sector, then RBS might be worth a closer look, as I believe it will start to reward patient shareholders over the next few years.
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