UniCredit Stock: Another Show Of Strength (OTCMKTS:UNCFF)

Our readers know that we like financial institutions, and we started upgrading UniCredit (OTCPK:UNCFF, OTCPK:UNCRY) with a publication called The Bank Could Return Its Entire Capitalisation In 4 Years. No sooner said than done. Indeed, the company’s total return exceeded our rosy expectations and has delivered a plus >170% since early June 2022 (Fig below). Ten years ago, the Italian banking system underwent the most complex restructuring in its history. That said, we recognized UniCredit and Intesa Sanpaolo as the two leading banks capable of benefitting from the current macroeconomic context. The rise in interest rates has revived profitability that had remained stagnant for over a decade. This, coupled with a tightening monetary policy and solid credit quality, has produced robust profit growth and generous remuneration policies both in terms of dividends and buybacks. Regarding UniCredit, the RoTE (return on tangible capital) moved from 7.5% in 2021 to >20% in 2023, while shareholders received €3.75 billion in 2022 and €5.25 billion in 2023. This year, the bank is targeting €10 billion in coupons and share repurchases, which translate into a total return of more than 16%. Looking at the share price evolution, UniCredit also benefited from the strong level of undervaluation. Indeed, the price-to-book value multiple has gone from 0.3 times in the last months of Mustier’s management (this was the previous CEO before Orcel’s appointment) to the current 0.80 times. In our latest publications, we expressed our long-standing buy rating on the Italian bank, and we suggest our reader check our most recent analysis:

1. UniCredit Is Likely To Deliver Long-Term Return;
2. UniCredit Is Moving In The Right Direction.

Fiscal Year 2023 results

Before applying our changes to the bank estimates, we would like to report the following highlights. The group reported:

1. Sales of €23.8 billion, with a Net Interest Income of €14.0 billion and resilient fees of approximately €7.5 billion;
2. Net income of €9.5 billion, up over 50% compared to last year and a RoTE of 20.5%;
3. EPS and DPS increased by 74% and 80%, respectively;
4. Despite macro headwinds, the risk cost was 12 basis points.

Q4 was another show of strength, and the bank (once again) increased its 2024 guidance. Our team believes that Q4 results underpin a current undervaluation and reflect that Wall Street estimates are not incorporated into the stock price. The bank capital return story and structural earnings growth still need to be priced in. Looking ahead, in terms of earnings revision, our forecasted numbers are still below the bank outlook. Despite that, we decided to increase our EPS by 10% in the 2024 and 2025 period. In numbers, our 2024 diluted EPS reached €4.8. On the distribution side, we decided to align our internal estimates with the bank’s new targets. This translates into approximately €21 billion returned to stockholders until 2025 and an annual yield of 17-18%. Finally, we should also mention that there will be an upside of 250 basis points of excess capital deployment in Q1. This could be performed via an extraordinary distribution. (UniCredit also has an optionality of inorganic growth; however, we do not anticipate any other transactions).

Key to notice is the fact that the bank has made three changes to its ordinary remuneration policy.

1. Net income used to remunerate shareholders via dividends excludes AT1 and cash coupons. This raised annual capacity distribution by five basis points;
2. Payouts have been raised to 100% in 2023, with a minimum payout of 90% in 2024. Cash payout moved from 35% to 40%;
3. UniCredit introduced an interim dividend. This will be paid in October and will serve to smooth its capital distribution. That said, including the new estimates, we raised our distribution expectation by €3 billion (almost 6% of the company’s total market capitalization). We arrived at a cash payout of approximately €24 billion until 2025.

Conclusion and Valuation

The company aims to sustain last year’s earnings base and raise the bar again. For the above reason, we decided to follow UniCredit guidance. Having said that, we incorporate the following negative trend. We are decreasing net interest income estimates starting from H1 2024, considering lower interest rate evolution and volumes. Rates cuts will likely inevitably compress UniCredit’s margins, and we anticipate a minus 10% contraction in cumulative NII between 2024 and 2026. For safety reasons, we are also slightly increasing credit cost assumptions, and we forecast a 30 basis points cost of risk in the upcoming period. This is due to the current macro uncertainty and to value of UniCredit under more normalized metrics. That said, the company’s book value is at 0.7x its 2025 estimates and trades at 5.8x P/E. On a normalized RoTE, UniCredit multiple looks heavily discounted. Therefore, valuing the bank with an unchanged 7x P/E, in line with EU peers such as Intesa SanPaolo, BNP Paribas, and KBC Group, we arrived at €33.6 per share, confirming our buy rating.

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