As a small cap company operating in a heavily regulated financial services sector, an investment in Van Lanschot Kempen N.V. (AMS:VLK) has many factors to consider. One of the biggest risk it faces as a bank is bad loans, also known as credit risk. The ability for borrowers to repay their loans depends on the stability of their salary and interest rate levels which is impacted by macroeconomic events and in turn impacts the profitability of small banks. This is because bad debt is written off as an expense and impacts Van Lanschot Kempen’s bottom line and shareholders’ value. Today we will analyse Van Lanschot Kempen’s level of bad debt and liabilities in order to understand the risk involved with investing in Van Lanschot Kempen
How Good Is Van Lanschot Kempen At Forecasting Its Risks?
Van Lanschot Kempen’s understanding of its risk level can be estimated by its ability to forecast and provision for its bad loans. If it writes off more than 100% of the bad debt it provisioned for, then it may have underestimated the risks that may have led to a higher bad loan level which begs the question – does Van Lanschot Kempen understand its own risk? With a relatively low non-performing loan allowance to non-performing loan ratio of 34.08%, Van Lanschot Kempen has under-provisioned by -65.92% which is a bit low for our liking. This may be due to a one-off bad debt occurrence or an underestimation of the factors contributing to its bad loan levels.
What Is An Appropriate Level Of Risk?
If Van Lanschot Kempen’s total loans are made up of more than 3% of bad debt, it may be engaging in risky lending practices above the judicious level. Bad loans are those that cannot be recovered and are directly expensed from the bank’s bottom line. Since bad loans make up 3.81% of its total assets, which is above the prudent level of 3%, it faces a higher chance of default. Given that most banks tend to be well below this threshold, Van Lanschot Kempen faces a higher risk level and shows below-average bad debt management.
How Big Is Van Lanschot Kempen’s Safety Net?
Van Lanschot Kempen profits from lending out its various forms of borrowings and charging interest rates. Deposits from customers tend to carry the lowest risk due to the relatively stable interest rate and amount available. Generally, the higher level of deposits a bank retains, the less risky it is deemed to be. Since Van Lanschot Kempen’s total deposit to total liabilities is within the sensible margin at 72% compared to other banks' level of 50%, it shows a prudent level of the bank's safer form of borrowing and an appropriate level of risk.
Although Van Lanschot Kempen’s level of deposits to liabilities level is sufficient, it has taken on risk through high levels of bad debt and poor provisioning for their repayment. This may lead to lower than expected profits for Van Lanschot Kempen. The potential for an adverse effect on Van Lanschot Kempen’s cash flow diminishes our confidence in Van Lanschot Kempen as a stock investment. Keep in mind that a stock investment requires research on more than just its operational side. I've put together three relevant aspects you should look at:
- Future Outlook: What are well-informed industry analysts predicting for VLK’s future growth? Take a look at our free research report of analyst consensus for VLK’s outlook.
- Valuation: What is VLK worth today? Has the future growth potential already been factored into the price? The intrinsic value infographic in our free research report helps visualize whether VLK is currently mispriced by the market.
- Other High-Performing Stocks: Are there other stocks that provide better prospects with proven track records? Explore our free list of these great stocks here.
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If you spot an error that warrants correction, please contact the editor at email@example.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned. Thank you for reading.