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This may be the only bank stock facing a near-term profit upgrade

You don’t hear much about upgrades in the banking sector recently but there’s one stock that is likely to see consensus profit upgrades flowing through over the next few weeks.

Big bank investors shouldn’t get too excited even as their share prices continue their recent bounce back this morning. The bank stock I am referring to is UK challenger bank CYBG PLC/IDR UNRESTR (ASX: CYB), or more commonly called Clydesdale Bank.

Clydesdale, which was spun out of National Australia Bank Ltd. (ASX: NAB) in early 2016, took a step closer to buying Virgin Money Holdings (UK) PLC after the latter’s board recommended its shareholders accept the bank’s takeover offer.

The share price of Clydesdale fell 1.9% this morning on the news to $5.46 even as the S&P/ASX 200 (Index:^AXJO) (ASX:XJO) index climbed 0.4% with Commonwealth Bank of Australia (ASX: CBA) and Australia and New Zealand Banking Group (ASX: ANZ) gaining ground as well.

But it’s nothing to be alarmed about as Clydesdale is still miles ahead of the local banks with the stock increasing 16% in value over the past year when the big four are wallowing in the red.

If anything, the dip in the stock represents a good entry point as the merger is expected to give Clydesdale a big earnings boost.

Management is tipping around £120 million in annualised cost saving per year by FY21 under the merger. This works out to around 8.4 pence a share after Clydesdale issues 1.2125 of its shares in exchange for every Virgin Money share.

The 8.4 pence represent a circa 38% uplift to the bank’s FY17 full-year earnings per share (EPS) by my estimates, and the uplift could even be greater if Clydesdale can achieve synergies in other areas.

One big area that looks ripe for the plucking is convincing Virgin Money depositors to open a current account with the bank.

Morgans notes that only 1% of Virgin Money depositors have such an account and for every 10% of Virgin Money’s customer deposit base that opens a current account with the merged group, Clydesdale’s EPS will increase around 5% if all things are equal.

Brokers, including Morgans, have not factored the merger into their valuation but that could be about to change now that Virgin Money’s board is backing the takeover.

I suspect we will see a decent uplift in consensus forecasts for Clydesdale and a corresponding increase in the bank’s share price target, which currently stands at around 5% above the share price of the London and ASX listed bank stock.

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Motley Fool contributor Brendon Lau owns shares of Australia & New Zealand Banking Group Limited, CYBG Plc, and National Australia Bank Limited. The Motley Fool Australia owns shares of National Australia Bank Limited. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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