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We have reiterated our long-term ‘Underperform’ recommendation on Westamerica Bancorp. (WABC - Analyst Report). Though the company’s second quarter results were in line with the Zacks Consensus Estimate, we believe that a weak interest rate environment and low investment returns will restrict any significant bottom-line improvement in the near term.

Westamerica’s quarterly results were negatively impacted by lower top line. However, a fall in non-interest expenses, improving credit quality and stable capital ratios were among the positives.

As a result of the difficult economic environment, Westamerica’s net interest margin (NIM) in the second quarter of 2012 fell 49 basis points on a year-over-year basis to 4.89%. Slow economic recovery and the Federal Reserve’s decision to keep the short-term interest rates low till 2014 are expected to keep NIM under pressure in the next several quarters.

Though the asset quality has been showing improvement over the last few quarters, Westamerica is anticipated to experience credit quality pressures in the upcoming quarters. The main reasons include the strong buoyancy observed in macro indicators such as private consumption, unemployment and interest rates.

Additionally, Westamerica’s average interest earnings assets dipped 1.5% from the prior-year quarter to $4.13 billion as of June 30, 2012. Given the weak interest rates and low investment returns amid the ongoing sluggish economic recovery, we do not expect any substantial growth in interest earnings assets over the next few quarters.

However, the scenario is relatively better, given its stable capital and liquidity position. Over the last few years, Westamerica has been continuously enhancing shareholders’ value through dividend hikes and share repurchases. In July, the company announced a new share buyback program under which it will be repurchasing up to 2 million common shares through September 2013. In addition, the company repurchased 566,000 shares for $26.1 million in the first six months of 2012. Moreover, the company’s dividend payout ratio increased to 49% in the first half of 2012 from 48% in the year-ago period.

Further, Westamerica remains one of the most profitable banks in the industry, on the basis of its strong return on equity (ROE) and return on assets (ROA). Though ROE was relatively flat at 15.6% in the second quarter as against the prior-year quarter, ROA declined to 1.69% from 1.73% in the year-ago period. Yet, both these ratios remained well above the peer group average.

Westamerica currently retains a Zacks #4 Rank, which translates into a short-term Sell rating. However, one of its peers, Columbia Banking System Inc. (COLB - Snapshot Report) retains a Zacks #3 Rank (short-term Hold rating).
 

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