So you end up following things you don’t entirely expect, and one of those, at the beginning of this year, was the biggest bank in Puerto Rico, Popular Inc. (BPOP). Having had some exposure to the overall situation in the commonwealth by my positions in some bond insurers, which are a whole different similar story, I was looking for other opportunities where a “the island is going to sink into the sea” mentality prevailed. Fortunately, every so often—if not nearly often enough—you find something n the very first place you look, and that place was BPOP. Seeing that the company’s exposure to commonwealth debt was minimal, capitalization was strong, it had been able to acquire troubled assets at an attractive price and had been able to streamline its mainland US operations and pay back over $1 billion in TARP loans, combined with a debt/tangible book value ratio of under 60%, it didn’t feel as though I were asking anyone to suddenly turn riverboat gambler to have a look at this name, and in fact the returns have been mst gratifying
What’s The Roadmap? Management always talked about a few particular catalysts, most notably a resolution of the potential default of commonwealth debt, including the appointing of a financial control board, and the results of the 2016 stress test as opening the doors to a potentially significant return of capital. After what seemed like decades of wrangling and many games of solitaire chicken on the part of Puerto Rico’s governor, Congress passed the PROMESA bill over the summer, which should lead to resolutions of the overall commonwealth debt situation and establishes a strong control board to oversee the island’s finances for the immediate future.
So How’re We Doing? The two quarterly results the company has posted since my initial recommendation have been strong, and the stock has provided a total return (including reinvested dividends) of 51% over that time, leaving the only remaining catalyst the result of the stress test; as the company had been posting a Tier 1 Capital ratio of over 16%, a disappointing result seemed unlikely, but we sat back to wait regardless. Two weeks ago, BPOP did post the stress test results, which showed that even under the “severely adverse” scenario, the ratio would remain exceptionally strong, at above 12%. While the results were not actually necessary for a return of capital, the fact that the company wanted to put this result behind it to help prevent any US government objection is another sign to me of the solidity and financial conservatism of BPOP management, and I would expect an announcement of some sort of capital return to shareholders in the immediate future, perhaps as soon as tomorrow’s third-quarter earnings release conference call, but certainly by the end of the year.
Risks? Well, Yeah, But That’s Not What Won’t Let Me Sleep At Night (We’ll Talk Insomnia Another Time). The Puerto Rican economy remains soft, and no stimulus plan has yet been pronounced, though there may be signs of a flattening in the decade-long recession that has affected the commonwealth. Additionally, the potential ripple effects of a commonwealth-wide bankruptcy would ultimately have an impact on BPOP’s consumer business, as government workers would undoubtedly undergo massive layoffs and any signs of stability we may be seeing would be entirely wiped out. Finally, though I haven’t seen much commentary on this, there is a possibility that the advent of Uber and its competitors could have lead to writedowns on loans in the company’s mainland taxicab medallion loan business.
Note: Stock price as of close of day, October 21. Original client recommendation on February 19, 2016 at $25.86.