While there are vast differences among the nation's best banks, they all have at least one thing in common: a serious and demonstrated commitment to distributing earnings to shareholders via dividends over buybacks. I would even go so far as to say that this is an axiom of exceptional banking.
This is bad news for shareholders of KeyCorp (NYSE:KEY). Over the past 12 months, the Ohio-based regional bank has violated this rule by spending $463 million on buybacks versus $191 million on dividends.
To make matters worse, even though KeyCorp executives pay lip service to an illusory commitment to dividends, there's every reason to believe (though I hope I'm proven wrong) that they'll eschew the opportunity to request a non-nominal distribution hike in the upcoming comprehensive capital analysis and review process, during which the Federal Reserve exercises an up-or-down vote on bank capital plans for the year ahead.
They haven't come out and said this, but it doesn't seem like an unreasonable conclusion when you read between the lines of its executives' recent (albeit vague) statements on the issue. At an industry conference earlier this month, for example, newly hired CFO Don Kimble noted that:
I would say that we're just in the process of defining what we think would be appropriate capital actions. And it's a challenge since the balance sheet and overall organic growth isn't that robust for us or any bank. In this past quarter, for example, we bought back $200 million worth of common stock and had a continuation of our dividend, and our capital ratios didn't change meaningfully. And so that could be a challenge as far as how do we get the appropriate returns to our shareholders from that perspective.
The alluded-to interplay between capital actions -- namely the $463 million in common stock repurchases over the past four quarters -- is the point here. As an analyst in the audience intimated, there would have been a "meaningful" change to Key's capital ratios if it hadn't spent so much on buybacks.
As a side note, I understand if you don't share my general repulsion to common stock repurchases, but I would encourage you to look at the best banks over the last few decades and see where they come down on this. Bank of America (NYSE:BAC) and Citigroup (NYSE:C), on the other hand, serve as textbook examples of the corollary. They each blew tens of billions of dollars on buybacks in the lead-up to the financial crisis and thereby set the stage for the egregious dilution that was necessary to stay alive.
But I digress. To get back to KeyCorp, why would it pursue such an un-shareholder-friendly policy of capital allocation? I can't help but think that it has something to do with its CEO's compensation plan, which is based in part on KeyCorp's earnings per share (which, of course, increase when the outstanding share count falls in the wake of a buyback).
My point here is simple. If you're a KeyCorp shareholder, I'd abandon any grand delusion that its executives will reverse course on their current capital allocation strategy anytime soon. And, more specifically, I'd shelve any hope for a non-nominal dividend increase as a part of the upcoming CCAR process.
KeyCorp's executives have shown their hand over the last year, and it's not one that the most discerning of investors would want anything to do with.