One often hears how the Big 5 Canadian banks are sounder businesses and better investments than the USA’s “too big to fail” banks that were bailed out by taxpayers in 2009.
This month we will explore one of Canada’s Big 5: Canadian Imperial Bank of Commerce (CM). Is it a good dividend growth stock? Let’s find out.
The Canadian Imperial Bank of Commerce is usually referred to as CIBC, and I will do so throughout this article. To analyze CIBC, I use the approaches described in DGI Lesson 14: Grading Dividend Growth Stocks to Find the Best Ones for Your Portfolio and DGI Lesson 11: Valuation.
CIBC’s Dividend Record
The first thing to note is that investment websites are inconsistent about measuring CIBC’s dividend in Canadian or US dollars, so be careful when doing your research.
CIBC reports its results and declares its dividends in Canadian money, but the amounts received by US investors in US dollars is determined by the US/Canadian foreign exchange rate at the time of each payout.
I have decided to present CIBC’s dividend statistics based on Canadian dollars, because those reflect what the bank is actually doing. CIBC can’t control the exchange rate.
CIBC’s dividend record is very strong. It offers a high yield at 5%, which is 76% higher than the average yield of the 293 Financial-sector companies on the Dividend Champions document (CCC).
For that reason, CIBC has only a 3-year dividend-growth streak when measured in US dollars, compared to an 8-year streak in Canadian dollars.
Therefore, CIBC does not appear on the Dividend Champions (CCC) list of companies with 5+ years of increases, since that document is based on US dollars.
Here is what the dividend growth streak looks like in Canadian dollars.
[Source of all yellow-bar graphs: Simply Safe Dividends]
During the financial crisis, CIBC held its dividend flat 2008-10, but was financially strong enough to not cut it. Since its dividend growth resumed in 2011, CIBC has been raising its dividend at a fast rate for a stock with such a high yield. Its increases sometimes come more than once per year, but on an annual basis, they have been pretty steadily in the 4.5%-5% per-year range. That is a good pace for a 5%-yielding stock.
In Simply Safe Dividends’ scoring system, which weighs multiple factors, CIBC gets a dividend safety score of 88/100, meaning that its dividend is rated as very safe and is unlikely to be cut. For more insight into dividend safety, see Dividend Growth Investing Lesson 17.
CIBC’s Business Model and Quality
CIBC came into existence in 1961. It was the outcome of the largest merger of two Canadian chartered banks – The Canadian Bank of Commerce (established 1867) and the Imperial Bank of Canada (established 1875).
As stated earlier, CIBC is one of the Big 5 Canadian banks. The others are:
• Bank of Montreal (BMO)
• Bank of Nova Scotia (or Scotiabank) (BNS)
• Royal Bank of Canada (RY)
• Toronto-Dominion Bank (TD)
CIBC is the smallest of the Big 5 in market cap, assets, and deposits. The Big 5 are all headquartered in Toronto and dual-listed in Toronto and New York. They can be purchased by US brokerages on US exchanges.
Canada’s banking industry is an oligopoly, meaning that there are a small number of firms that occupy most of the market. The Big 5 control more than 85% of the banking industry in Canada.
Each of the Big 5 has its own growth and operating strategies. CIBC is the most concentrated on Canada itself, and its operations most resemble a classic savings and loan.
CIBC’s operating segments (which it calls strategic business units or SBUs) reflect this.
• Canadian Personal and Small Business Banking provides individuals, families, and small businesses with financial advice, products, and services through advisors in branches plus direct, mobile, and remote channels.
• Canadian Commercial Banking and Wealth Management provides commercial and private banking and wealth management solutions for middle-market companies, executives, entrepreneurs, institutional clients, and high-net-worth individuals.
• Capital Markets’ services include investment and corporate banking, advisory, and research to corporate, government, and institutional clients.
• U.S. Commercial Banking and Wealth Management provides similar services to its Canadian counterpart.
Through those four SBUs, CIBC serves 10 million personal banking, business, public sector, and institutional clients, through more than 1000 service centers.
This graph shows how domestic Canadian business dominates CIBC’s profits, accounting for about ¾ of CIBC’s net income.
[Images other than yellow bar graphs are from CIBC investor presentations, earnings reports, and fact sheets]
CIBC presents its business strategy in this way:
There is nothing remarkable about this strategy; it’s about what you would expect a domestically focused bank to say. It does not aim for vast international expansion nor any “moon shot” type growth initiatives.
CIBC aims to grow EPS (earnings per share) at around 5%-10% per year.
CIBC’s focus on Canada means, of course, that it is vulnerable to downturns in the Canadian economy. As to mortgages, however, Canadian banks are less exposed than their US counterparts, for several reasons:
• More than 50% of mortgages in Canada are backstopped by federal mortgage insurance from the Canadian Housing and Mortgage Corporation.
• Mortgage interest is not tax deductible, so Canadian borrowers tend to have smaller mortgages on, and more equity in, their homes.
• Terms are usually 5 years or less, renewable at maturity. This allows banks to reassess credit-worthiness of borrowers periodically.
• Default levels are far lower than in the US.
Finally, I should note that Steve Eisman, who was featured in “The Big Short” movie, has been warning about the possibility of severe downturns in the Canadian housing market since at least late 2017. He has recently stated his thesis for corrections in Canadian real estate and banks, which he feels are not prepared for such corrections. He has indicated that he has short positions in some Canadian banks, including CIBC.
In the following video, CIBC’s CEO, Victor Dodig, responds.
[Source: YouTube]
My own interpretation of Eisman’s and Dodig’s debate is that Eisman’s short calls have been over-hyped. He isn’t calling for a Great Recession-style crash, rather for a 20% possible price downturn. Even if that happens, I don’t see a major threat to CIBC’s dividend.
Here is a summary of CIBC’s business quality rankings:
As we often see, S&P’s quality rating is out of step with the others, and the reason for the below-average rating is not explained in the CFRA report that contains it.
CIBC’s Financials
I like to begin this section by seeing how Value Line rates the company’s financial strength. Then I go through specific financial metrics and see if I agree with their assessment.
Value Line gives CIBC its 2nd-highest Financial Strength grade, which it has held since 2014:
Let’s look at some key financial categories and see if we agree.
Return on Equity (ROE) is a standard measure of financial efficiency and is extensively used with banks. ROE is the ratio of profits to shareholders’ equity.
The average ROE for all CCC stocks is 17%, and for S&P 500 companies it is about 13%. The following chart shows CIBC’s ROE 2009-2018.
You can see that CIBC’s ROE runs in the average range.
Debt-to-Capital (D/C) ratio measures how much the company depends on borrowed money. Companies finance their operations through a mixture of debt and equity (shares issued to the open market) as well as their own cash flows.
With banks, the D/C metric is not helpful. Banks’ product itself is money, and the low-cost deposits that the bank holds are actually debts that it owes. So D/C typically is not used in analyzing a bank.
The normal use of D/C is to gauge risk and determine how strong the balance sheet is. With banks, regulators measure risk in a variety of ways, but the most basic measure is under a set of international standards called Basel III.
I won’t get highly technical here, but the regulatory goal – especially in the wake of the financial crisis of 2007-2009 – is to make sure that banks have an adequate buffer in place to help ensure their solvency in the event of unexpected events.
This slide shows CIBC’s reporting on the strength of its balance sheet. They report this every year as part of a “scorecard” that reflects how well they are doing along a variety of dimensions.
The key sentence there is that CIBC’s compliance with Basel III is “well above the target set by the Office of the Superintendent of Financial Institutions,” which is an independent Canadian agency established to contribute to public confidence in the Canadian financial system.
Another clue about a bank’s solidity is its credit rating. CIBC has an investment-grade credit rating of A+. S&P describes its “A” level ratings this way:
An obligor rated A has strong capacity to meet its financial commitments but is somewhat more susceptible to the adverse effects of changes in circumstances and economic conditions than obligors in higher-rated categories.
Operating margin is normally one of my favorite financial metrics. It measures profitability: What percentage of revenue is turned into profit after subtracting cost of goods sold and operating expenses.
Unfortunately, operating margin is not meaningful for banks, because of the role that interest payments play in their complex financial accounting.
CIBC tracks their own metric to illustrate how well they turn revenue into profits, which they call the Efficiency Ratio. The ratio goes down as the bank cuts expenses in relation to revenue, so lower is better.
Earnings per Share (EPS) is the company’s officially reported profits per share. We want to see if a company has had years when it officially lost money, or if its earnings are steadily increasing, declining, or flat.
CIBC has delivered positive earnings steadily, increasing them in 7 of the past 9 years, including the last 4 years in a row.
Free Cash Flow (FCF) is another metric that I usually asses, but again it is not very useful when examining banks. Earnings are a more reliable metric.
Share Count Trend shows whether the company’s outstanding shares are increasing, decreasing, or remaining flat.
I like declining share counts, because the annual dividend pool is spread across fewer shares each year. That makes it easier for a company to maintain and increase its dividend. By buying back its own shares, the company is essentially investing in itself and expanding each remaining share into a larger piece of the pie.
CIBC’s share count has been on a slight upward trend over the past 10 years, increasing 16% during that time. That’s not favorable, but there’s nothing alarming about it either.
Here is a summary of the items above:
A lot of our normal data points are not meaningful as to banks. In their place, special metrics suggest that CIBC’s finances are strong.
I find no reason to disagree with Value Line’s A+ financial rating for CIBC.
CIBC’s Stock Valuation
My 4-step process for valuing companies is described in Dividend Growth Investing Lesson 11: Valuation.
Step 1: FASTGraphs Basic. The first step is to compare the stock’s current price to FASTGraphs’ basic estimate of its fair value.
The basic valuation estimate usually uses a price-to-earnings (P/E) ratio of 15, which is the historical long-term P/E of the stock market, to create a baseline “fair value” reference line.
In the following chart, the fair-value reference line is orange, and the black line is CIBC’s actual price. The prices are in Canadian dollars, but the ratios are the same, and I am going to calculate CIBC’s fair price in US dollars.
Since the black price line is beneath the reference line, that suggests that CIBC is undervalued.
To calculate the degree of undervaluation, we make a ratio out of the P/Es. I circled in blue CIBC’s actual P/E of 9.0. So for the valuation ratio, we have 9 / 15 = 0.6. In other words, CIBC is 40% undervalued as estimated by this first method.
We calculate CIBC’s fair price by dividing the actual price by the valuation ratio. We get US$83 / 0.6 = US$138 for a fair price.
Note that I round dollar amounts to the nearest dollar to avoid creating a false sense of precision. Since valuation involves future events, it cannot be precisely known.
Step 2: FASTGraphs Normalized. The second valuation step is to compare the stock’s current P/E to its own long-term average P/E.
CIBC’s 5-year average P/E is 10.2 (circled). As before, the stock appears to be undervalued.
Using the same calculation methods as above, we get the following results for CIBC’s valuation.
• Valuation ratio: 9 / 10.2 = 0.88
• Fair price: US$83 / 0.88 = US$94
Step 3: Morningstar Star Rating. Morningstar takes a completely different approach to valuation. They ignore P/E ratios and instead use a discounted cash flow (DCF) model for valuation. Many investors consider DCF to be the best method of assessing stock valuations.
My experience with Morningstar is that they have an admirably comprehensive and detailed approach. They make logical, conservative projections of all the company’s future profits. The sum of all those profits is discounted back to the present to reflect the time value of money.
The resulting net present value of all future earnings is considered to be the fair price for the stock today.
Morningstar gives CIBC 4 out of 5 stars, meaning that they consider the stock to be undervalued.
Morningstar calculates CIBC’s fair price at US$99, meaning that it’s selling at a 16% discount.
Step 4: Current Yield vs. Historical Yield. My last step is to compare the stock’s current yield to its historical yield. This way of estimating fair value is based on the idea that if a stock’s yield is higher than usual, it may indicate that its price is undervalued (and vice-versa).
This chart shows CIBCs current yield (green dot) compared to its 5-year average (horizontal line).
[Source: Simply Safe Dividends]
CIBC’s 5-year average yield is 4.5%, while its current yield is 5.0%. When the current yield is higher than the historical average, that suggests undervaluation.
CIBC’s current yield is 11% above its 5-year average. Flipping it around to get a valuation ratio, we get 4.5% / 5.0% = 0.9.
Using the valuation ratio of 0.9, CIBC’s fair price computes to US$83 / 0.9 = US$92.
Here’s a summary of the four methods:
Valuation Summary:
All 4 valuation methods are in agreement that CIBC is undervalued. Together they suggest a fair price of $106.
For comparison, CFRA has a 12-month price target of $97.
Miscellaneous Factors
Beta
Beta measures a stock’s price volatility relative to the S&P 500. I like to own stocks with low volatility for 2 reasons:
• They present fewer occasions to react emotionally to rapid price changes like sudden price drops that can induce a sense of fear.
• There is industry research that suggests that low-volatility stocks outperform the market over long time periods.
CIBC’s 5-year beta is 1.2, which means its volatility has been 20% higher than the market’s, which is defined as the S&P 500.
This is a negative factor.
Analyst’s Recommendations
In their most recent report on CIBC, CFRA shows the recommendations of 15 analysts who cover the company. Their average recommendation is 3.5 on a scale of 5, which is midway between 3 (hold) and 4 (buy). This is a slightly positive factor.
What’s the Bottom Line on CIBC?
Here are CIBC’s positives:
• Strong dividend record: High yield (5%) combined with a steady increase record in the 5-7% range per year, which is a good increase rate for a company with a yield as high as 5%.
• Top-tier “Safe” Dividend Safety grade of 88/100 from Simply Safe Dividends, suggesting that the dividend is unlikely to be cut.
• One of the Big 5 banks in Canada, part of an oligopoly that is considered to be one of the soundest banking systems in the world.
• Solid if unspectacular business model, focused on being a good conventional bank in its domestic market.
• Narrow moat rating from Morningstar, highest Safety rating from Value Line, and solid A+ credit rating from S&P.
• Decent financials.
• Stock is more than 20% undervalued.
And here are CIBC’s negatives:
• It does business in Canadian dollars, which means that US shareholders may see jumpier dividends without the annual increases the company makes in Canadian dollars, because of volatile foreign exchange rates.
• CIBC is the most exposed Canadian bank to the Canadian housing market.
• Its stock price has been more volatile than average.
In my opinion, CIBC seems like a very attractive dividend growth opportunity, given its high yield and proven propensity for increasing its dividend.
There have been no analyses of CIBC on Daily Trade Alert over the past year. However, CIBC is included in this model portfolio from Value Line: “Stocks for Income and Potential Price Appreciation.” (Note that the listing is from the Toronto stock exchange and is in Canadian dollars.)
Finally, remember that this is not a recommendation to buy, hold, or sell Canadian Imperial Bank of Commerce. Always do your own due diligence. Think not only about the company’s quality, dividend outlook, and business prospects, but also about how and whether it fits your personal financial goals.
— Dave Van Knapp
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