In recent months, the regional banking space has already undergone many changes after several large-scale acquisitions. But there could still be a lot more merger and acquisition (M&A) activity underway, especially as the banking environment becomes more competitive and credit quality and earnings begin to stabilize. With that in mind, I looked at three of the biggest potential acquisition targets that I believe still have a chance to materialize, and that would seriously disrupt the regional banking scene.
1. HSBC United States
The media recently reported that HSBC Holdings (NYSE: HSBC) is considering ending its US banking business through a sale or closure, and it’s probably about time.
Everything about HSBC’s US banking franchise stinks, at least on paper. Its performance over the past few years has been dismal by all measures. Its net interest margin, the difference between what the bank does on interest-bearing assets such as loans and what it pays out on interest-bearing opportunities such as deposits, ended 2020 at 1.16%. . Even in the ultra-low rate environment in 2020, it’s terrible. The bank’s spending structure is also extremely inflated.
That said, any acquiring bank is likely to get a good deal on this renovator, and if a bank is looking to expand, HSBC’s U.S. banking franchise is one of the biggest opportunities with over $ 196 billion in business. total assets. In addition, there are probably many savings possibilities.
With more than $ 170 billion in total assets at the end of 2020, KeyCorp (NYSE: KEY) is the 20th largest bank in the United States. It includes custodian banks, investment banks and credit card companies. The Cleveland-based institution has a wobbly retail presence in 15 different states, including Alaska, as well as states in New England and the West Coast.
Since the Great Recession, this has been a long task for KeyCorp and the bank is still trading lower from the levels it was trading at before the Great Recession. In recent days, the bank has traded not too far from its five-year high. However, as I mentioned, the banking environment seems to be getting more and more competitive, so KeyCorp may be interested in releasing at the right price.
Before the pandemic, the bank had not experienced strong loan or deposit growth between 2016 and 2019, and while its returns are certainly not terrible, they are not superior or consistent in different interest rate environments. these last years.
KeyCorp could also be an attractive acquisition candidate because it offers an acquirer an excellent source of fee income. It has become increasingly difficult for banks to be successful simply by relying on loans, and many tend to receive more favor from investors if they derive a larger percentage of their income from commissions. This type of income tends to fare better in an economic downturn or low interest rate environment than net interest income from loans.
In 2020, KeyCorp’s fee revenue represented 39% of its total revenue. Not only that, but the bulk of its commission income comes from more sustainable commission income streams such as investment banking, trust and investment services, and card and payment income. KeyCorp recently traded at around 155% of tangible book value.
3. Funding of the regions
Regional finance (NYSE: RF) is another bank that has never recovered from the Great Recession, although it recently saw its stocks trade at a new five-year high. The bank ended 2020 with more than $ 147 billion in assets. Similar to KeyCorp, its performance isn’t bad, but the bank has had very little loan growth over the past five years. Before the pandemic, the regions had seen their total volume of deposits decrease between 2016 and 2019.
The good news is that the pandemic has helped regions increase their unpaid deposits, essentially a source of free funding, to more than $ 17 billion in 2020. Unpaid deposits now represent almost 42% of the deposit base. total of the bank. . So if the bank can keep all of those deposits, it now has an infinitely more attractive and sticky deposit base than it did before the pandemic.
The regions are also very present in many major banking markets. The bank has 289 branches in Florida and nearly 100 branches in Texas. It is also very present in the Southeast, where many states have growing populations and a more business-friendly atmosphere. Regions recently traded around 184% of their tangible book value, which means they are likely to command a higher purchase price for any acquisition right now.
Considering the size of these regional banks, their roster of suitors is limited as there are only a limited number of banks that could swallow the whole, although a merger of equals is always a possibility. Three of the main US banks – JPMorgan Chase (NYSE: JPM), Bank of America (NYSE: BAC), and Wells fargo (NYSE: WFC) – already own nearly or more than 10% of all US deposits and therefore cannot acquire another depository institution under the law. PNC Financial Services Group (NYSE: PNC), another large regional bank, also recently made a big purchase, so I would exclude them for now as well.
The bank that I think is probably best placed to buy HSBC, KeyCorp or Regions is US Bancorp (NYSE: USB), which is currently trading for around 212% of tangible book value. Having a higher valuation than US Bancorp is crucial in a banking transaction because it makes financial data and possible returns – especially in any type of all-equity transaction – much more attractive to investors.
Other potential banks that could be in the market for a deal are Rhode Island-based Providence Citizens Financial Group (NYSE: CFG) and based in Cincinnati Fifth Third Bancorp (NASDAQ: FITB), but neither trade at higher multiples like US Bancorp, and ultimately high bank valuations could make KeyCorp and Regions too expensive. On the other hand, Bank Mergers and acquisitions can be hard to predict and valuations can go down too, so you never know.
This article represents the opinion of the author, who may disagree with the “official” recommendation position of a premium Motley Fool consulting service. We are heterogeneous! Questioning an investment thesis – even one of our own – helps us all to think critically about investing and make decisions that help us become smarter, happier, and richer.