The $181-billion-asset KeyCorp (NYSE:KEY) is one of those banks that got hammered during the Great Recession and never really recovered. Even today, the stock is only about half of what it was at its peak before the recession. But despite the shortfalls, management has done a lot of work in recent years to make changes to the business. Those changes seem to finally have given the Cleveland-based bank some real momentum right now. Let’s take a look.
Leading up to the pandemic, KeyCorp did not have a very robust loan or deposit franchise. Between 2016 and 2020, the bank grew loans at a compounded annual growth rate (CAGR) of 3.3%. Deposits grew at a CAGR of 5.4%, but most of that growth happened in 2020, when deposits swelled at most banks.
In 2019, KeyCorp acquired a student loan refinancing platform called Laurel Road. It began to scale the business and build it into a national digital bank called Laurel Road for Doctors, which offers various lending and deposit products, as well as targeted credit card offerings, financial insights through a doctor dashboard, and other perks. There are other products in KeyCorp’s broader consumer bank like residential mortgages and credit cards, and then investment products that can be cross-sold to customers brought onto the platform. KeyCorp’s CEO, Chris Gorman, provided a nice overview on the latest earnings call regarding how Laurel Road for Doctors is designed to work:
So the typical point of capture for our customers at Laurel Road is when they begin their fellowships. So think about somebody that is accredited that’s a doctor that is — wouldn’t be unusual for them to have $200,000 of debt and have a FICO score of like 770. And it’s a great time for us to bring a new customer onto the platform because typically, they’re being placed through the matching process. And at that point, not only do they refinance their debt, but thankfully for us, they do a lot of other things. They — a lot of times, they buy their first house and get a mortgage. We also have now have the ability to [offer] savings, payments but we can offer a digital-based kind of full relationship.
Since April 2019, Laurel Road has done $5.3 billion in originations and added 2,500 dentists and doctors to the platform and 46,000 “member customers” on the platform as well. Soon, Gorman said, Laurel Road will target the 4.4 million nurses market. Between 2016 and 2020, KeyCorp only grew total consumer loan balances, which is different than originations, by a little more than $5 billion, so Laurel Road should be able to accelerate this as the bank continues to scale it.
The borrowers being acquired by Laurel Road for Doctors are really some of the best customers a bank can potentially acquire. They are highly educated individuals who need loans to refinance, but are also on a path to becoming high-income earners who might use other banking products like mortgages, or may become wealth management customers one day. Any time you can get a customer to use multiple banking products, that really cuts down acquisition costs and makes those customers so much more profitable to the bank. There is still a long way to go with Laurel Road, but the direction and progress so far looks promising.
The bank continues to do well with its fee income businesses, led by KeyCorp’s investment banking and debt placement business, which earned $217 million in fees in the second quarter of the year, a record second-quarter level and the second highest quarterly level in investment banking ever. KeyCorp also has a trust and investment services business and a cards and payments business that bring in solid fee income each quarter. Management has revised its guidance for fee income upward, and now projects total fee income to be up in the high-single-digit or low-double-digit percentages in 2021 compared to 2020.
Credit quality also continues to perform well at the bank, with non-performing loans, those that haven’t received a payment typically in at least 90 days, as well as criticized loans, those that are still current but may be in danger of missing payment, both down. Net charge-offs (debt unlikely to be collected and a good indicator of actual losses) also dropped from the first quarter of the year. The bank is only expecting net charge-offs of average loan balances to be 0.20% to 0.30% for the full year.
With solid credit quality and a strong capital position, management is expecting to return a lot of capital to shareholders over the next year. The bank has a dividend yield of 3.6% at recent prices, and management said they may raise the dividend in the fourth quarter. Additionally, KeyCorp’s board of directors recently authorized a new share repurchase plan of up to $1.5 billion, which is equivalent to roughly 7.7% of the bank’s recent market cap. With the current dividend and full use of the share repurchase plan, KeyCorp could return the equivalent of 11.3% of the bank’s total market cap to shareholders over the next year.
Good momentum all around
KeyCorp has solid credit quality and is planning to return lots of capital to shareholders over the next year. The bank also continues to produce strong levels of fee income and finally seems to have its loan and deposit business headed in a much better direction, primarily due to Laurel Road for Doctors. I think Laurel Road will be a very important factor for KeyCorp’s progression, particularly if they can really grow the customer base and tap into the full banking potential of those customers.
At recent prices, KeyCorp trades at about 149% to tangible book value, which is a bank’s equity minus its goodwill and intangible assets, and it shows what a bank would be worth if it were immediately liquidated. I certainly think KeyCorp should be trading higher, given all the momentum in its business.
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