Toronto-Dominion Bank (TD) (TSE:TD), Canada’s second-largest financial institution with a significant retail banking business in the United States, has had a difficult year. From a business perspective, the company recently entered into an anti-money laundering (AML) settlement with the U.S. Department of Justice (DOJ) and has had poor results.
For investors, TD is the only major Canadian bank whose stock has suffered losses this year, and that’s not insignificant. Shares of TD (listed on the NYSE) are down about 17% so far in 2024, while the next worst-performing Canadian bank stock is Bank of Montreal (BMO), which is up a nice 12% YTD books.
However, amid the weakness comes long-term opportunities, and this is a rare occasion where a major financial institution can be bought for a price-to-earnings ratio of less than 10x. I think it’s worth it for patient investors to consider TD at this point. As a result, I have a buy rating on TD stock.
TD has 4 major divisions, namely:
Canadian banks
American retail banking
Asset management
Wholesale banking
TD’s entry into the United States was stimulated by the 2005 acquisition of Vermont-based BankNorth. It then strengthened its presence in the US by acquiring another East Coast institution, Commerce Bank, in 2007. By the time I visited New York City for work in 2013, TD’s green logo was everywhere in Manhattan.
Interestingly, however, the US retail banking segment has not been the main growth driver for TD in recent years, accounting for about a third of total adjusted net profit in the third quarter of 2024. The Canadian banking operations continue to form the backbone of the company. which is a good thing, considering TD’s recent troubles south of the border. Furthermore, the Wealth Management and Wholesale Banking divisions tend to have less predictable results, and the IPO market in particular has been relatively poor recently.
It’s important to note that TD also owns a ~10% stake in shares of Charles Schwab (SCHW), whose shares have rebounded by ~30% in recent months.
It’s always a challenge to buy a stock on bad news, but I’ve taken a bullish stance on TD stock after the recent regulatory woes in the United States. The company was accused by the DOJ of violating anti-money laundering regulations by implementing weak controls and oversight of cash movements. It was alleged that at least three money laundering networks were able to transfer more than $650 billion in funds through TD accounts.
TD reached a $3.1 billion settlement with the DOJ in October, a fine that could have been higher if TD did not cooperate with the investigation. Although shares fell approximately -6.4% on the day of the announcement, the size of the fine was not surprising as TD had already made provisions of more than $3 billion. What probably caught the market off guard was the asset limit imposed by regulators. TD must adhere to a $434 billion asset ceiling within its U.S. retail banking division. That effectively eliminates any growth prospects for TD’s own banking operations in the United States.
However, the bank’s US operations have long shown mediocre results, and the optimistic way to look at the situation is that TD can refocus on operational efficiency rather than growth. Meanwhile, TD stock has naturally retreated into value territory.
On Thursday (Dec. 5), TD reported its fourth-quarter and full-year results for 2024 (Canadian banks set their fiscal year from November 1 to October 31). Diluted earnings per share were C$1.97 for the fourth quarter and C$4.72 for the full year, representing a decline in earnings per share of almost 15%. However, investors should not forget the settlement costs of approximately $3.1 billion. On an adjusted basis, fourth-quarter and 2024 earnings per share came in at C$1.72 and C$7.81, respectively, still slightly lower than 2023.
The US operations accounted for much of the weakness due to higher loan loss provisions, higher non-interest expenses and a decline in revenues. TD has been working to strengthen its transaction monitoring processes, including associated recruitment and training. It’s no surprise that spending is rising. Still, TD’s Canadian banking operations continue to deliver strong results, with the division’s fourth-quarter 2024 net profit up 9% from the same period last year.
That’s in line with what Royal Bank of Canada (RY) reported for the fourth quarter earlier this week. Meanwhile, the Bank of Montreal (BMO), which also reported profits, revealed that their adjusted net income from Canadian banking operations fell 17% year-over-year. So TD’s results remain decent where it counts most. However, one concerning takeaway from TD’s press release is the announcement that management is “suspending the following medium-term financial targets: 7-10% adjusted EPS growth, 16%+ return on equity and positive operating leverage.”
Although analyst ratings are subject to updates following TD’s earnings release, Wall Street generally considers TD stock to be undervalued. I also share that opinion.
Of the nine Wall Street analysts covering TD Bank, three have Buy ratings, five Hold ratings, and one Sell rating. While this represents a consensus Hold rating, the average price target for TD stock is $62.15, suggesting a potential upside of approximately 17.7% from its recent trading price.
View more TICKER analyst ratings
After today’s further share price decline, TD stock is trading at just 9.65x last year’s adjusted earnings per share. As the company continues to improve anti-money laundering controls and invest in risk management, earnings growth will be tested. I am disappointed that TD management has suspended previous guidance rather than choosing to update it, and that may raise concerns that the management team has limited visibility.
That said, CEO Bahrat Masrani will retire in the coming months, and it makes sense to give the incoming new CEO the opportunity to adjust short-term financial targets.
Ultimately, I am confident that TD will get back on track. It may take some time, but at the current share price the valuation is too good to pass up. Rarely does a major bank sell for less than 10x earnings. At that multiple, I can tolerate a temporary slowdown in growth and continue to maintain a buy recommendation on TD.
