First Merchants trades at $42.05 per share and has stayed right on track with the overall market, gaining 7.9% over the last six months. At the same time, the S&P 500 has returned 6%.

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Why Do We Think First Merchants Will Underperform?

We don't have much confidence in First Merchants. Here are three reasons there are better opportunities than FRME and a stock we'd rather own.

1. Long-Term Revenue Growth Disappoints

From lending activities to service fees, most banks build their revenue model around two income sources. Interest rate spreads between loans and deposits create the first stream, with the second coming from charges on everything from basic bank accounts to complex investment banking transactions.

Regrettably, First Merchants’s revenue grew at a tepid 6.7% compounded annual growth rate over the last five years. This fell short of our benchmark for the banking sector.

2. Net Interest Income Points to Soft Demand

While bank generate revenue from multiple sources, investors view net interest income as a cornerstone - its predictable, recurring characteristics stand in sharp contrast to the volatility of one-time fees.

First Merchants’s net interest income has grown at a 7% annualized rate over the last five years, worse than the broader banking industry and in line with its total revenue. Its growth was driven by an increase in its outstanding loans as its net interest margin, which represents how much a bank earns in relation to its outstanding loan book, was flat throughout that period.

3. EPS Barely Growing

Analyzing the long-term change in earnings per share (EPS) shows whether a company's incremental sales were profitable – for example, revenue could be inflated through excessive spending on advertising and promotions.

First Merchants’s unimpressive 7.3% annual EPS growth over the last five years aligns with its revenue performance. This tells us it maintained its per-share profitability as it expanded.

Final Judgment

We see the value of companies driving economic growth, but in the case of First Merchants, we’re out. That said, the stock currently trades at 0.9× forward P/B (or $42.05 per share). While this valuation is fair, the upside isn’t great compared to the potential downside. There are better investments elsewhere. We’d recommend looking at a safe-and-steady industrials business benefiting from an upgrade cycle.

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