NEW YORK - Shareholders in American banks are their own worst enemy. The idea that the nation’s 5,000 or so lenders are in need of consolidation has put a high valuation on even ho-hum targets. That means buyers often displease their shareholders, even if by most metrics an acquisition might look good. A Texas bank’s $2.1 billion takeover of a smaller rival on Monday is a case in point.
Prosperity Bancshares is, on the face of it, an efficient bank. It generates 15% or so return on its tangible equity, spends only $43 of each $100 in revenue on expenses and has more capital than regulators require. Buying LegacyTexas Financial will allow Chief Executive David Zalman to boost his $22 billion in assets by more than 40%, taking the bank well on its way to his five-year goal of being a $50 billion institution.
Shareholders aren’t convinced - they withdrew some 6.5% from Prosperity’s market value by mid-afternoon trading on Monday. That’s almost as bad as the pain inflicted on Fifth Third Bancorp just over a year ago after outlining a similar financial rationale for snapping up MB Financial. Prosperity is paying $173 million more than LegacyTexas’s closing value on Friday, but the likely present value of is anticipated cost cuts is roughly double that.
Part of the problem is that on one number bank investors monitor closely, the deal fails to pass muster. The deal will cause Prosperity’s book value per share to fall, and it won’t return to its current level for around four and a half years. That’s partly a reflection of LegacyTexas’s high valuation – it traded at some 2 times book value before Monday’s deal, despite generating 12% annualized return on tangible equity in its most recent quarter, lower than its new owner. It also has a reputation, as executives acknowledged on a call with shareholders, for taking on more risk.
Fifth Third fell into a similar trap – it had warned that its deal would take six years to reverse the dilution to book value. Yet by looking too closely at that one number, shareholders may be missing the wood for the trees. Prosperity’s deal should create a bigger, more efficient bank well-placed to snap up other competitors. With thousands of banks jostling for business, that’s a worthy goal in itself.
- Prosperity Bancshares on June 17 said it was buying LegacyTexas Financial for approximately $2.1 billion in cash and shares. The combined group would have almost $32 billion in assets and $24.3 billion of deposits.
- Prosperity is paying a premium of just over 9% to LegacyTexas’s closing stock price on June 14 and expects to cut around 25% of the target’s non-interest expenses.
(Editing by John Foley and Amanda Gomez)
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