I remember as a child walking into banks and being wowed by the marble counters and floors, not to mention the free cookie. Before the holes in banks were exposed, I perceived banks as sound companies that were drowning in cash and safe investments. I now view the marble tiles and counters—the so-called “brick and mortar”—as a disguise and waste of money, but where else could I open up an account to keep my money in a safe and liquid place? A poll conducted by OneNewsPage.com showed that 70% of customers don’t trust banks since the global financial crisis. In order for banks to gain back the trust of their customers, they need to drastically change their procedures and do what is best for the customers, not their bottom line. They need to regain the trust of their investors, too.
Companies like Bank of the Internet (NASDAQ:BOFI) have found a way to make life easier for customers while still improving their bottom line. Noticing the decreasing traffic to largely idle bank branches, BOFI’s business strategy is to lower the cost of delivering banking products and services by leveraging technology, while continuing to grow their assets and deposits to achieve increased economies of scale. BOFI passes the overhead savings to the customers by offering free checking with unlimited ATM reimbursement, an enhanced mobile banking platform (including an application for Android and iPhone), and they pay up to 1.25% in APY checking. You need $100 to open an account, and accounts carry no monthly fees. You can deposit checks remotely by scanning the checks, or you can mail in the checks using the free postage-paid envelopes that the bank provides.
In last three months David Allrich, a director of BOFI, sold 9700 shares in two separate transactions. Alrich sold 9,400 shares at $18.77 on June 14, and sold the remaining 300 shares the day after for $18.75. In the last 12 months, insiders have made 32 trades, all sells, totaling a net activity of -244,900 shares. Institutional investors owned fewer than 5% of BOFI shares in August 2011, ownership nearly tripled in 2012, and as of August 2012, institutions own 12.7% of shares outstanding. Wellington Management holds 5.78% of BOFI shares outstanding and is the largest institutional holder. Royce & Associates hold 4.47% of shares outstanding and are the second largest hedge fund holder.
Large banks like JPMorgan Chase & Co. (NYSE:JPM), ING Groep N.V. (NYSE:ING), and Bank of America Corporation (NYSE:BAC) also have incorporated online banking services. Like BOFI, these large financial institutions offer free online checking and bill paying, as well as mobile services. BOFI excels over these competitors by offering higher APY checking rates and ATM reimbursements at any location. Bank of America Corporation (NYSE:BAC) offers 0.05% APY on checking accounts, ING Groep N.V. checking has APY of 0.20%, and JPMorgan Chase & Co. (NYSE:JPM) pays interest of 0.05% APY. The 1.25% APY BOFI offers can be earned through various methods, any single method will boost the BOFI APY higher than their larger competitors. These methods include making a direct deposits each month totaling $1,000 (0.3125% APY), paying two bills each month through BOFI checking account (0.3125%), using a Rewards Checking Visa Debit card at least one time per month (0.3125%), and if you use that card six times you receive another (0.3125%).
The Internet-based bank is operated from a single location in San Diego, California, currently serving approximately 36,000 retail deposit and loan customers across all 50 states. The company reaches out to disgruntled bank customers using their partners, like Costco Wholesale Corporation (NASDAQ:COST). Bank of Internet primarily issues multi-family and single family real-estate loans to Costco members located in California, but open their service to anyone interested. These loans at origination have an average loan-to-value (LTV) ratio of 53.79%. BOFI believes their average LTV of 53.79%, is lower and more conservative than most banks, which has resulted in lower average loan defaults and write-offs when compared to other banks. Costco was a great starting point for BOFI (you can read our take on Costco here). Costco customers tend to be more affluent, and therefore carry less risk and require a lower LTV. Low level risks in real-estate loans must have been a breath of fresh air to CEO Gregory Garrabrants, former Senior Vice President of IndyMac BanCorp. BOFI believes that their loan origination could have grown even faster, but due to their hesitancy in taking on risky loans, they haven’t expanded originations to their full potential.
Growth in revenue, loan originations and income, combined with Gabbabrants running a tight ship, has caught the attention of investors. Since BOFI announced their impressive fourth quarter results on August 9, 2012, its share price has jumped 12%, and year-to-date investors have seen the stock price appreciate nearly 45%. Net income for 2012 increased 43.2% to 29.47 million year-over-year. Over the last year, loan origination grew 22%, the loan portfolio grew 30%, assets grew 23%, deposits grew 20%, and non-performing assets only grew 77 basis points. To finish 2012 the company boasted an ROE of 18% and an ROA of 1.5%. These impressive figures were recognized in an SNL ranking on thrifts with assets greater than $1 billion. SNL’s ranking is based on four metrics of profitability and 2 metrics of asset quality. BOFI has been ranked in the top five since 2008, in 2008 BOFI ranked #5, in 2009 they ranked # 3, #2 in 2010, and #2 in 2011. 2012 rankings should be interesting, as the number one bank didn’t grow as fast as BOFI.
BOFI is not a cheap stock relative to their 10.05 P/E and 1.5 P/B, but the company is a mico-cap stock with an abundance of room for growth. The company has an impressive five-year revenue compound annual growth rate (CAGR) of 43.1%. Its operating margin grew by 46%. BOFI is expensive based on the industry average P/B of 0.9 and the company’s three year average P/E of 7.39, but BOFI crushes the industry average for the five year CAGR of 7.4%, and operating margin of 13.2%.
BOFI isn’t the only bank offering online and mobile banking, but being a branchless bank, BOFI is in a great position to pass saving to customers and reflect savings in their operating margins. After beating analyst estimates every quarter in 2012 and boasting a 37.7% efficiency ratio, it’s hard to ignore the innovative branchless banking model.
Disclosure: Mike Pate is long BOFI.