Recently I wrote an article about how to calculate the value of a business. Toronto-Dominion Bank deal is an example of the irrelevance of valuation techniques used by most industry professionals. In the end it is what a buyer is willing to pay for a business that determines the company’s value.
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The Toronto-Dominion Bank has agreed to acquire the Canadian portfolio of Bank of America Corp. in an $8.6 billion in cash plus assumed liabilities deal for 1.8 million new accounts. This acquisition will make TD Bank one of the largest credit card issuing banks in Canada, next to Canadian Imperial Bank of Commerce at about 18% market share. The acquisition price works out to be $4,778 plus debt per credit card account. TD shareholders should be asking how the deal was valued, the return they expect to make (and how) and the risks associated with the new business.
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The portfolio comes with $8.5 billion in credit card loans. Credit card loans are the first and most impacted by economic downturns. With poor economic indicators coming out of the U.S., Canada’s largest trading partner and resource prices (which drive the Canadian economy) showing weakness lately this adds significant risk to TD’s business. Adding to the concern is the Canadian housing in a bubble which could burst in the next few months. The major Canadian banks and Canadian government all have given warning that the real estate market is in for a correction and if this happens in the fall then TD’s gamble will be a painful one.
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Even Mark Carney, Bank of Canada Governor last year warned that household debt levels are concerning, adding that many indebted Canadians could be in trouble if they lose their jobs. At the time he made the comment the average household debt level (including mortgages) had reached a record 146 per cent of personal disposable income. In addition, the cost of home ownership in Canada has surpassed the 50 per cent of family income level. Historically, the cost of home ownership has been 33 per cent of family income.
Yet, with all that money lying around TD has to find something to do with it. With depressed interest rates and active loans TD is not making money by depositing money. The shareholders won’t be happy if that money isn’t put to work, especially when it is time for the fiscal year end. Credit cards are a cash cow because they charge an upwards of 18 per cent interest annualized. Canadian banks can borrow money for almost free. You get no interest on a Canadian chequing account balance and if you lock it into an investment certificate you get less than 1-2 per cent if you’re lucky. So that 18 per cent can be pretty lucrative.
Only time will tell if TD’s gamble will pay off. Meanwhile, it will be interesting how investors will view the deal and how it will impact the company’s share price.
Regardless, it appears that the value of my credit card account to TD is $4,778 plus debt. So, how can I sell my credit account to TD? If they offered me even $1,000 I’d be willing to close my existing credit card and get one with TD.
By Baldo Minaudo, M.B.A. (www.baldominaudo.com)
If you would like an inside look into banking, how to succeed in the banking corporate ladder and how to leverage your bank as a client, read The Banker Who Saved His Soul (www.TheBankerWhoSavedHisSoul.com)