2023-03-29 11:38:16 ET
Summary
- How far can it go?
- What do you get?
- What is it worth?
$8
A pound of ground beef from one of my favorite nearby farms? A month of Twitter Blue ? $8 won't get you far but it will get you a share of Ponce Financial (PDLB) with change.
Banks
A word on banks overall. They have been obliterated this month. In such circumstances I often look for opportunities among the wreckage. Most strong reactions are overreactions. Recent vivid capital destruction can cause panic. Yet I see no reason to take a big bold swing at the regional banks. If Congress fails to pass unlimited deposit insurance, capital will continue to leave the regionals for JPMorgan (JPM), Wells Fargo (WFC), Citi (C), and Bank of America (BAC) because those four have implicit too big to fail guarantees from the government.
We've seen the pain from interest rate risk but have not yet been hit with credit risk. It is coming. With higher rates, higher cap rates, and lower property values, credit problems are coming. At the same time, government help always comes with strings attached. New regulations will hurt bank earnings.
Community banks such as PDLB are almost all insured deposits, which is one reason why community banks are safer than the regionals. So the current environment hurts the middle sized banks the most, with better prospects for the very largest and smallest banks.
ECIP
The key to understanding PDLB is understanding the Emergency Capital Investment Program / ECIP program that PDLB exploited. The Treasury established ECIP to provide up to $9 billion of funding for Community Development Financial Institutions / CDFIs and Minority Financial Institutions /MDIs. Funding is in the form of preferred stocks issued to Treasury. ECIP preferred shares are perpetual. The interest rate is 0% for the first 24 months. After 24 months, ECIP recipients pay out (tiny, way below market) dividends to the Treasury. The baseline dividend rate is 2%. However, the rate could be reduced to 1.25% or 0.50% depending on the amount of qualified lending to low- and middle-income communities in the previous year. The standard is quite low. After 10 years, the dividend rate is fixed based on the amount of qualified lending in the first nine years. Only recipient banks have the option to redeem the ECIP preferred on or after fifth anniversary at par. The Treasury does not have any redemption rights. Treasury may sell the capital investment at no cost to a mission-aligned nonprofit affiliate of an applicant that is a CDFI. In the case of Ponce, the Treasury can transfer the ECIP to the Ponce Foundation at no cost. They should and probably will. The recipient bank may merge with any bank. The issuer, subject to receipt of any required regulatory approvals, may merge or sell all, or substantially all, of its assets (as well as, in the case of an issuer that is a BHC, any insured depository institution subsidiary) provided that the right of the Senior Preferred, and the obligations of the issuer relating thereto, are assumed and an equivalent Senior Preferred issued by the successor entity. This program is an utter scandal. It is essentially a wealth transfer from taxpayers to bank equity holders.
BankFirst (BFCC) analogy
BankFirst recently bought Mechanics Bank, another ECIP recipient. BankFirst got $175 million from ECIP and Mechanics got $44 million. Excluding ECIP, it appeared that BFCC overpaid for Mechanics given they had only $28 million of common equity. However, due to the low rate on the ECIP capital BFCC marked the $43.85 million of ECIP at only $9.23, or 21 cents on the dollar, which boosted the value BFCC received to $59.45 million opposed to the $28 million of stated common equity.
PDLB PDLB
Applying this same accounting to PDLB's $225 million of preferred stock, their adjusted tangible book value would be around $18 per share vs. the $10.77 per share reported in the fourth quarter. If PDLB utilizes the loopholes for transferring the ECIP preferred to the Ponce Foundation at no cost (again: They really really should do this), TBV would hit $20-$22.
Why now?
Lots of banks are down a lot. Potential bargains are strewn around. Why mention this one in particular? They passed their one-year conversion anniversary in late January, making them eligible to buy back stock. They first need a non-objection letter from regulators which is delayed due to the regulators' distraction elsewhere during this banking chaos. As soon as they get the approval, they'll be aggressive at gobbling up shares for 44% of book value which is massively accretive. And there could be demand on the Russell 2000 reconstitution. With a weak R2K that cutoff is now under $150 million so PDLB should have an easy time making the freshly lower cutoff. Indexers will be forced to buy 9% or so of the float.
Give it two years (or maybe three for a bit of wiggle room)
Given PDLB completed their second step conversion in January of 2022 they are not eligible to sell until January of 2025. The current $8ish price is 45% of adjusted tangible book value, so even if they have limited earnings there is substantial upside if they can sell for anywhere near that adjusted tangible book figure. Further, they're seeking approval to repurchase shares, so any buybacks are highly accretive to book value. Lastly, they have around an $18 million negative OCI mark on their securities portfolio, so a portion of that should accrete back between now and when they are eligible to sell. What should you pay for this? Well, I never expected to be able to get it for under $10 so this seems like a great opportunity. Anywhere under the $10.77 stated tangible book value is good. The StW price alert is set for $15, still a chunky discount to the adjusted TBV.
Caveats
We're in a banking crisis. Absolutely anything can happen tomorrow or next week or next month. I hesitate to even mention a bank out of concern that it signs me up to explain every subsequent short-term price move. Yet, this one is unavoidable if you're able to put money to work and can afford to wait a few years.
I'm a banking tourist. My work in this area is highly derivate of a few trusted friends who eat, breath, and sleep banks. Without them I'd be lost. So take into account that I'm here for gaudy mispricing but am quick to move on when variant prices even somewhat converge with value. No "diamond hands" here.
Conclusion
Prospectively, PDLB has a great risk:reward over the next 24-36 months. It's my favorite of the ECIP banks. Retail investor surveys that brokers offer ask inane questions because the underlying assumption is that one needs to take more risk to get more reward. That's backwards. Get more reward by buying stuff at bigger discounts and thus less prospective risk.
TL; DR
I like PDLB. If you buy some and hang onto it for a few years, you'll like it too.
For further details see:
What Can You Get For $8? Ponce Financial