Toronto-Dominion Bank’s stock price fell 5.8 per cent on Friday after troubling revelations about a U.S.-led probe into alleged laundering of illicit drug proceeds through its branches raised new concerns about the eventual financial toll of the bank’s regulatory problems.
On Thursday, it was revealed that a lengthy investigation into TD by U.S. banking regulators and the Department of Justice is related to a US$653-million money-laundering operation involving drug-trafficking proceeds. The scheme targeted a number of financial institutions, and not all of those funds passed through TD, but the breaches that U.S. officials uncovered were severe enough to scuttle a multibillion-dollar U.S. acquisition that TD had planned, and to cloud the bank’s future prospects.
A National Bank of Canada analyst is revising his worst-case scenario for the bank, predicting fines that could reach $2-billion and potential restrictions on the bank’s business that could eat into its profits. Given the severity of the misconduct that occurred at some TD branches, “we believe that TD could not only face a larger than expected fine, but also regulator-imposed limitations on its business activities,” said Gabriel Dechaine, a banking analyst at National Bank Financial Inc., in a note to clients.
As TD’s share price fell on Friday, declining by more than 6 per cent at its lowest point in trading on the Toronto Stock Exchange, shares in its four largest Canadian peers – RBC, Bank of Montreal, Bank of Nova Scotia and Canadian Imperial Bank of Commerce – were modestly higher.
Historically, TD has traded at a 4-per-cent premium to its peer group, but its shares are now at a 6-per-cent discount, Mr. Dechaine said. That has attracted interest from some investors who predict a rebound, but Mr. Dechaine cautioned them to “put greater weight on worst-case scenarios for the stock.”
The big question now: Will TD ever get its premium back?
Some analysts had previously estimated that TD could face fines of $500-million to $1-billion from multiple regulatory investigations. But after TD announced it has earmarked a US$450-million provision against penalties from a single regulator, with additional discipline still to come, those previous estimates “seem far too low,” Mr. Dechaine said.
“We believe cumulative fines could easily hit $2-billion,” he wrote. In addition, regulators could issue consent orders that could affect TD’s day-to-day operations and its financial performance, he said. Consent orders dictate what a bank must do to address deficiencies flagged by regulators, and what it can’t do until those issues are fixed. While the bank takes remedial actions, which drives up compliance costs, restrictions from such an order could potentially include limits on the growth of its balance sheet.
Earlier this year, the U.S. Office of the Comptroller of the Currency imposed a US$65-million fine on City National Bank, the U.S.-based subsidiary of Royal Bank of Canada, as well as a consent order requiring the bank to undertake an array of reforms.
“Consent orders can impact a bank’s operations for many years,” Mr. Dechaine said, citing a 12-year probe of British-based HSBC Holdings PLC’s U.S. operations. “In our worst-case scenario analysis, we estimate this issue could erode TD’s future earnings potential by over $1-billion.”
That would wipe out 7 per cent of TD’s projected 2024 earnings per share, based on consensus estimates by analysts.
TD has been under pressure for years to show a plan for its next phase of growth after an ambitious expansion into U.S. retail banking, and a deal to boost its clout in capital markets by buying New York-based dealer Cowen Inc. for US$1.3-billion last year. The Toronto-based bank had planned to expand through a blockbuster US$13.4-billion deal to buy Tennessee-based First Horizon Corp., but terminated the pending deal a year ago after regulatory investigations into alleged anti-money laundering lapses meant TD couldn’t secure the approvals it needed in a timely fashion.
A source with knowledge of the matter confirmed that TD was a financial institution named in a U.S. criminal complaint that had several of its bank branches targeted by criminals to launder large sums of cash from narcotics sales. The criminal operation contributed to high numbers of overdose fatalities in the U.S., according to the U.S. Drug Enforcement Agency.
The Globe and Mail is not naming the source because they were not authorized to speak publicly about the matter. The Wall Street Journal first reported TD’s connection to the drug-trafficking probe on Thursday.
TD has consistently said it cannot disclose any information on its discussions with regulators, but the bank is anticipating additional penalties, which could include fines as well as non-monetary penalties. The total amount of those fines are “unknown and not reliably estimable at this time,” TD said in a statement this week.
The bank still faces potential penalties from two other regulators, plus the Department of Justice, “which has a history of imposing much larger fines,” Mr. Dechaine said.