Monday, February 4, 2008

* Stock Analysis: RY-Royal Bank of Canada

This article originally appeared on The Dividend Guy's Blog on February 17, 2008 as a guest post.
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Linked here is a PDF copy of my analysis of the Royal Bank of Canada (RY) (alt.1, alt.2). Below are some highlights from the above linked analysis:


Company Description: Royal Bank of Canada (RBC) offers a range of banking and financial services in North America and internationally.

Fair Value: I consider four calculations of fair value, see page 2 of the linked PDF for a detailed description: 1.) Avg. High Yield Price, 2.) 20-Year DCF Price, 3.) Avg. P/E Price and 4.) Graham Number. RY is trading at a discount in 3 of the 4 valuations listed above - 1.) Avg. High Yield Price, 2.) 20-Year DCF Price and 3.) Avg. P/E Price. If I exclude the high and low valuation, and average the remaining two valuations, RY is trading at a 7.3% discount. RY gets a Star for being fairly valued.

Dividend Analytical Data: In this section I consider five factors, see page 2 of the linked PDF for a detailed description: 1.) Rolling 4-yr Div. > 15%, 2.) Dividend Growth Rate, 3.) Years of Div. Growth, 4.) 1-Yr. > 5-Yr Growth and 5.) Payout 15% of avg. RY earned 2 of the 4 available Stars in this section - 1.) Rolling 4-yr Div. > 15% and 2.) Dividend Growth Rate. 1.) Rolling 4-yr Div. > 15% means that dividends grew on average in excess of 15% for each consecutive 4 year period over the last 10 years (1998-2001, 1999-2002, 2000-2003, etc.) I consider this a key metric since dividends will double every 5 years if they grow by 15%.

Dividend Income vs. MMA: Why would you assume the equity risk and invest in a dividend stock if you could earn a better return in a much less risky money market account (MMA)? This section compares the earning ability of this stock with a high yield MMA. Two items are considered in this section, see page 2 of the linked PDF for a detailed description: 1.) NPV MMA Diff. and 2.) Years to >MMA. It was a home run for RY in this section earning both available Stars. RY's NPV MMA Diff. was an eye-popping $199, 376. That means if the historical dividend growth rate were to continue into the future, the NPV of RY's dividend income in excess of what could be earned on a 4.6% MMA over 20 years would be $199,376 per $1,000 invested.

Other: RY is a stock that I would likely have never discovered if it were my Canadian friends made as a result of blogging. The only blemish on RY's quantitative analysis is a dividend drop in 1999 ($0.29 from $0.30). With an after-tax writedown of C$160 million in October related to subprime debt-backed securities, it appears that RY's overall exposure to these risky assets is much less than the large U.S. banks.

Conclusion: RY earned one Star in the Fair Value section, two Stars in the Dividend Analytical Data section, and two Stars in the Dividend Income vs. MMA section for a total of five Stars, which rates it as a 5 Star-Strong Buy.

The historical DCF value for RY was based on an 18.4% EPS growth rate and a 20% dividend growth rate. These will likely be difficult to sustain over the next 20 years. Assuming a pro-rata relationship between the EPS growth rate and the dividend growth rate, the current share price of $51.75 could be justified with a 12.1% EPS growth rate and a 13.1% dividend growth rate. At that dividend growth rate the NPV MMA Diff. would still be a sporty $20,308.

In summary, I have been buying RY and will continue to buy until its fundamentals change.

Disclaimer: As always this is only my opinion and you should not rely on it. Before buying or selling any stock you should do your own research and reach your own conclusion. See my Disclaimer for more information.

Full Disclosure: At the time of this writing, I own shares of RY.

What are your thoughts on RY?

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