2023-03-27 11:25:32 ET
Summary
- First Citizens announced that it would acquire most of SVB's operating assets out of FDIC receivership.
- The deal terms look quite favorable for First Citizens, including a $16.5B discount on the acquired assets, a loss-sharing agreement, and favorable funding and liquidity deals.
- Acquiring SVB will double First Citizens' asset base, adding a large capital call lending business and significantly expanding the private banking and specialty commercial lending operations.
- First Citizens management took some pains to reassure investors that it has the liquidity needed to cover these acquired assets, underlining the ongoing concern about bank funding risks.
- Investor confidence in banks remains exceptionally low, and further stress to liquidity-challenged banks is a risk, but this looks like a good deal for FCNCA over the long term.
Looking at everything as a zero-sum game is usually too simplistic, but it’s not wrong to look for potential winners even in generally bad situations. To that end, while the collapse of SVB Financial (SIVB) has seriously undermined confidence in the banking sector, to say nothing of destroying meaningful shareholder equity, First Citizens BancShares ( FCNCA ) ( OTCPK:FCNCB ) has stepped into the breach to acquire most of SVB’s banking assets in a deal that could generate meaningful long-term value for the company.
I believe First Citizens is acquiring an attractive collection of businesses, including a large private equity/venture capital lending operation, a large private banking operation, and a large tech-focused banking operation at a steep discount. I believe SVB’s failure was a byproduct of growth and balance sheet management choices as opposed to inherent problems with the businesses (like poor underwriting), and those issues don’t automatically transfer to First Citizens. All of that said, while I liked First Citizens before , and I believe this a deal that can create meaningful value over time, investors have seen firsthand in recent weeks how the potential long-term value of a bank can be overwhelmed by short-term liquidity and confidence issues.
Going Back To The Well… With A Much Larger Bucket
First Citizens announced Monday morning (March 27) that it had reached an agreement with the Federal Deposit Insurance Corporation (or FDIC) to acquire most of the banking assets of SVB Financial out of receivership.
First Citizens is acquiring around $110B in SVB assets at a $16.5B discount. Among the assets are over $107B in earning assets, including $35.4B in cash and $72.1B in loans, and close to $3B in other, non-earning assets (including real estate). On the liability side, First Citizens is taking on $56.5B in deposits (vs. the nearly $173B in reported deposits at the end of Q4’22, and reflecting the huge run on deposits that forced the bank’s failure) and a $34.6B five-year note payable to the FDIC, secured by the acquired loan portfolio and carrying a 3.5% annual coupon rate.
First Citizens also is giving the FDIC a value appreciation instrument tied to First Citizens’ share price and worth up to $500M and payable in cash. First Citizens also is getting a five-year loss-sharing agreement that will cover 50% of losses above $5B on SVB’s commercial loan book, and First Citizens also is getting a contingent funding facility from the FDIC worth up to $70B at a rate of SOFR+25bp that will last up to five years.
This is far from the first time that First Citizens has acquired the assets of failed banks from FDIC – First Citizens has done over 20 of these transactions over the years, and was a meaningful player in such transactions after the Global Financial Crisis. While those deals helped create First Citizens’ national footprint, none of those deals was close to the size of this transaction – this deal will double First Citizens’ asset base and move the bank into the top-20 of U.S. banks (No. 16 on a pro forma basis).
Why Do This Deal?
I believe First Citizens is being opportunistic and acquiring attractive assets that will meaningfully accelerate the bank’s national lending platform growth plans and doing so at an attractive price and with relatively low risk. I say “relatively low” as confidence in the banking sector is especially low now and the failures of SVB and Signature underline how even large banks can collapse if and when depositors lose faith in the solvency of the bank.
SVB was a major player in capital call lending, providing loans to private equity and venture capital firms. This is basically a type of short-term bridge financing that clients use to add flexibility to their funding and smooth the process of capital calls to investors. I don’t believe SVB ever booked losses in this business, and it’s been an attractive lending vertical for the likes of SVB and First Republic ( FRC ) for years. While demand for capital call loans has been much weaker of late (with significant less deal volume), I believe this is still an attractive business for First Citizens over the longer term.
I also believe the acquisition of SVB’s tech-oriented commercial lending fits in well with the bank’s larger goals of its national specialty-driven commercial lending operations. While a lot of First Citizens’ commercial lending has been concentrated in areas like receivables factoring and real estate lending, building up its capabilities across multiple tech verticals (including health care) is very much consistent with management’s prior comments on long-term growth priorities.
SVB enjoyed roughly 50% share in providing banking services to early-stage tech and life sciences companies, with its strong long-term relationships with venture capital giving it an early look at a lot of business. It remains to be seen how much of that will continue to be the case – many venture capital funds pulled their business from SVB and advised their portfolio companies to do the same (leading to SVB’s collapse), and I would expect to see many of those clients who still bank with SVB look to diversify their banking needs in the future (spreading deposits around multiple banks). Even with that caveat, though, I believe there are long-lasting relationships here that First Citizens will still be able to leverage over time.
Last and not least, expanding the private banking operations, particularly in wealth management, is likewise fully consistent with First Citizens’ stated goals and priorities.
The Outlook
First Citizens didn’t take on all of SVB’s assets – the underwater securities portfolio stays with the FDIC, and assets like SVB Leerink (SVB’s investment bank) were not part of the transaction. Credit quality in the acquired loan portfolio shouldn’t be an issue, and I do believe the combination of discounted asset prices and the liquidity facility should offset the duration risk First Citizens is adding (taking on long-term assets locked into low rates funded by short-duration liabilities that are becoming much more expensive).
I’m going to wait to see the financial reports for the first quarter of 2023 before remodeling First Citizens, but I expect this transaction to significantly improve the bank’s long-term earnings capacity. Again, I don’t believe that SVB failed because the underlying operations (call lending to private equity/venture capital, private banking, lending/banking for smaller tech-oriented companies) were poor, but rather because management was too aggressive in its growth plans and far too confident that it could sustain a “just in time” approach to liquidity during a time of rapidly-rising funding costs.
I do expect to see fretting about whether First Citizens is itself growing too fast, but I think the structure of the deal reduces its funding/liquidity risk, and I believe the FDIC (as well as the Fed and Treasury department) are well aware of that perception risk now. Again I’ll reiterate the warning that we’ve seen how banks can quickly become vulnerable to deposit runs (arguably any bank outside the top 15 or top 20 is vulnerable), but the panic seems to have died down over the past week or so.
As of my last update, I thought First Citizens was worth around $937/share to $975/share. With issues at SVB, Signature, First Republic, and other banks, I’d likely have reduced that by a $100/share or so to reflect a more conservative funding profile (taking on excess liquidity) and slower growth, as well as weaker sentiment (higher discount rates and lower multiples). Given the assets that First Citizens is acquiring, I don’t think the $250-plus/share movement is out of line, but again I’m waiting until I see the next quarterly report before rebuilding my model.
The Bottom Line
I think the acquisition of most of SVB out of FDIC receivership is a good opportunistic move for First Citizens, but not a risk-free windfall. It remains to be seen how much damage has been done to SVB’s long-term banking relationships (deposit-gathering, lending, and fee-based services like treasury management services), and funding pressures are going to remain an issue for banks for some time. What’s more, while First Citizens management is experienced in integrating acquisitions, the scale of this deal presents significant challenges that shouldn’t be overlooked or underestimated – many banks struggle to execute on mergers-of-equals under less fraught circumstances.
All told, I think prudent opportunism remains a good approach to bank stocks now. I think there are many high-quality banks trading at unreasonably low multiples. Given the deal integration risk here, I wouldn’t call First Citizens my top choice, but I do think this is a deal that will likely produce substantial long-term gains for patient investors.
For further details see:
First Citizens Bancshares: Leveraging FDIC Pain Into Potential Gains For Shareholders