Revisiting My Bullish Thesis On Enterprise Bancorp Stock (NASDAQ:EBTC)

In late 2020, I recommended purchasing Enterprise Bancorp (NASDAQ:EBTC) for its deeply undervalued stock price back then. Since then, the stock has rallied 39% and hence the stock has become somewhat less attractive. As a result, some investors probably wonder whether they should remain invested or take their profits. In this article, I will analyze why this high-quality bank remains attractive.

Business overview

Enterprise Bancorp is a bank with 26 full-service branches in Massachusetts and Southern New Hampshire. It has a simple business model and offers a range of commercial, residential and consumer loan products, deposit products and cash management services.

Due to its small market capitalization ($450 million) and its relatively mundane business model, Enterprise Bancorp passes under the radar of the vast majority of investors. However, this is a shame, as it is one of the highest-quality banks in the investing universe.

First of all, Enterprise Bancorp has been included in the Top 5 Places to Work list among large-sized companies in Massachusetts for five consecutive years. This is a testament to the deep commitment of the bank to its employees.

Moreover, Enterprise Bancorp has remained profitable in every single quarter since its formation, i.e., for 129 consecutive quarters. This period includes the Great Recession and the fierce recession caused by the coronavirus crisis in 2020. While most banks incurred a collapse in their earnings in these two recessions and cut their dividends, Enterprise Bancorp remained highly profitable and maintained its multi-year dividend growth streak.

In 2020, Bank of America (BAC) and Wells Fargo (WFC) saw their earnings per share slump 32% and 89%, respectively, whereas Enterprise Bancorp reported just a 9% decrease in its earnings per share. Resilience to recessions is paramount, as capital gains achieved in a whole decade can evaporate during such periods. In addition, stocks that are resilient to recessions make it much easier for their shareholders to retain their shares with a long-term perspective and avoid selling them during bear markets.

The exceptional quality of Enterprise Bancorp should be attributed primarily to its exemplary management. Most banks operate with high leverage and thus they usually grow at a fast pace during boom times. However, leverage is a double-edged sword, which causes a plunge in profits during downturns. Enterprise Bancorp is well aware of this and thus it has always operated with modest leverage. As a result, it has always proved resilient to recessions throughout its 33-year history.

The prudent business strategy of Enterprise Bancorp has resulted in a markedly consistent performance record. The company has grown its earnings per share in 7 of the last 9 years, at an 11.9% average annual rate. To be fair, this period includes a significant reduction of the corporate tax rate in 2018 and the strong recovery from the pandemic in 2021. Therefore, investors should not expect the bank to continue growing at the same pace for many more years. Nevertheless, the reliable growth trajectory of Enterprise Bancorp is undoubtedly admirable.

It is also worth noting that Enterprise Bancorp is on track to open a new branch, in Londonderry, New Hampshire, in the third quarter of this year. While the opening of a new branch is insignificant for large banks, it is significant for Enterprise Bancorp, as the bank currently has only 26 branches.

Moreover, Enterprise Bancorp enjoys strong business momentum right now. In the fourth quarter, the bank grew its core loans 6%, primarily thanks to its sustained business development efforts on its commercial loan portfolio. As a result, the company grew its earnings per share 10%, from $0.82 to $0.90.

The performance of Enterprise Bancorp was even more impressive in the full year, as the company grew its earnings per share 34%, from $2.64 to a new all-time high of $3.50. The impressive earnings resulted partly from the recovery of the economy from the pandemic, which led to a substantial decrease in the provision for credit losses, from $12.5 million in 2020 to only $1.8 million in 2021. As this tailwind is non-recurring, it is reasonable to expect Enterprise Bancorp to decelerate this year. Nevertheless, its underlying business momentum remains strong.

Dividend

Enterprise Bancorp has an exceptional dividend growth record, with 27 consecutive years of dividend growth. As this period includes the pandemic and the Great Recession, which was the most severe financial crisis of the last 80 years, the dividend record of Enterprise Bancorp is certainly admirable.

The stock is currently offering a 2.2% dividend yield. This yield may seem uninspiring to most income-oriented investors but it is much higher than the 1.3% dividend yield of the S&P 500. Moreover, the bank has grown its dividend at a 7.7% average annual rate over the last five years. This growth rate is higher than the 5.6% median dividend growth rate of the financial sector.

Furthermore, Enterprise Bancorp has a payout ratio of only 18% and hence it has ample room to continue raising its dividend meaningfully for many more years. To cut a long story short, while the current dividend yield of Enterprise Bancorp may seem lackluster to most investors, the reliable growth trajectory of this high-quality bank is likely to compensate them in the long run.

Valuation

Enterprise Bancorp has rallied nearly 40% since my aforementioned article but it is still trading at a trailing price-to-earnings ratio of only 10.8. This is much lower than the 10-year average price-to-earnings ratio of 14.1 of the stock.

The cheap valuation can be attributed to the correction of the broad financial sector this year, which has resulted primarily from the surge of inflation to a 40-year high. The invasion of Russia in Ukraine has only made things worse but it is likely to end later this year, as Russia is being financially exhausted every day that passes. When the war ends, inflation will probably begin to revert towards more normal levels and the stock of Enterprise Bancorp will probably begin to return towards its historical valuation level. If this proves correct, the stock will enjoy a 31% valuation tailwind. Therefore, despite its 39% rally since late 2020, Enterprise Bancorp remains cheaply valued.

Final thoughts

Due to its boring business model and its small market capitalization, Enterprise Bancorp passes under the radar of the investing community. However, this bank has an exceptional performance record and resilience to recessions thanks to its exemplary management. Given also its cheap valuation, it is not too late for investors to include this high-quality stock in their portfolios.