Charles Schwab Earnings: Revenue Downturn Showing Signs of Stabilization; Shares Undervalued

In the medium to long term, Charles Schwab SCHW should see significant growth in earnings, and third-quarter results show stabilization in revenue that has recently been trending downward. Charles Schwab reported net income to common shareholders of $1.02 billion, or $0.56 per diluted share, on $4.61 billion of net revenue. Net income was affected by $279 million of restructuring charges in the quarter, and adjusted EPS that excludes restructuring, acquisition, and certain amortization costs was $0.77. Net revenue decreased 16% from the prior year’s record revenue quarter, mostly due to a nearly $700 million decline in net interest income as funding costs have increased. Net revenue declined only 1% from the previous quarter, which is a significant deceleration of the revenue declines of 7% to 9% the prior two quarters. We don’t anticipate making a material change to our $80 fair value estimate for wide-moat Charles Schwab and assess shares are undervalued.

The largest medium-term drivers of earnings will be Charles Schwab paying down its high-cost supplemental funding and expense savings. Federal Home Loan Bank funding decreased by a significant $9.2 billion to $31.8 billion, but it was offset by a decrease in corporate cash. Both balances yield about 5%, so the effect on net interest income was nearly neutral. Over the next several quarters, we believe securities maturing in the company’s bank and stabilizing client cash will allow the company to pay down additional high-cost Federal Home Loan Bank, or FHLB, borrowings that will lead to net interest income growth. Charles Schwab reiterated its target of about $1 billion of cost savings over the next year and that 2024 adjusted expenses could be flat or even lower than 2023.

Charles Schwab’s regulatory capital ratios remain strong. Its consolidated tier 1 leverage ratio increased to 8.2% from 7.5% the previous quarter. Its tangible common equity seems to have remained steady.