Banca Sistema Spa (LON:0R9H) is an Italian bank which operates in the factoring business. It engages in financing and managing trade receivables owed by the Italian Public Administration.
What are the major risks for the bank?
One of the biggest risk Banca Sistema faces as a bank is bad loans, also known as credit risk. As a small cap stock in the heavily regulated financial services sector, this will be very important.
Borrower's ability to repay depends on their financial stability and also macroeconomic events which in turn impact heavily the profitability of small banks. This is something on the agenda at the moment with the Italian authorities in constant friction with their EU counterparts.
Should a bad debt be written off, this would be a major expense for Banca Sistema’s bottom line and shareholders value. Below is a chart showing the Debt of the bank which has been peaking but is now cooling off.
On this point, it is vital that the bank needs to make sure that it has enough bad debt provisioned for their bad loans. At the moment the bank has a low bad load to bad debt ratio of 18% which means that it has significantly under-provised by 81%.
Banca Sistema profits from lending out its various forms of borrowings and charging interest rates. Deposits from customers tend to carry the lowest risk due to the relatively stable interest rate and amount available. Generally, the higher level of deposits a bank retains, the less risky it is deemed to be. Banca Sistema’s total deposit level of 56% of its total liabilities is within the sensible margin for a financial institution. This indicates a prudent level of the bank’s safer form of borrowing and a prudent level of risk.
How is the share price looking? Should we consider buying?
The stock price has suffered a lot this year and is now down 30%. The bank, which was incorporated in 2011, went public in July 2015 and following a brief rally, the price tumbled and it never managed to surpass the IPO price. In fact, it is now down 60% since inception!
On the flip side, the stock pays a very good dividend and it is now expecting to pay around 5.5%. Although high, the dividends paid are very well covered by the earnings with a payout ratio of 25% of earnings.
The P/E ratio of the share is now 4.5 which is very low compared to that of the index at 11.6.
By year end, revenues are expected to be higher than the year before and so is the net income.
After the initial suffering, free cash flows are back on track and this is positive with higher earnings because it is showing that the bank is capturing more of the market.
Being a small cap in the much-targeted Italian banking sector, Banca Sistema is definitely a volatile instrument and has its risk. Having said that, I think that with the current prices, high dividend and relatively good fundamentals, it might make sense to consider to buy at these levels.
Article written by Christian Buhagiar
