Yesterday, we announced our second merger of the year with the purchase of Gateway Financial. Gateway is a three bank holding company and totals $8880mm in assets and nine branches located in central Florida. Combined, that makes us $6.5B in assets with 85 branches spread throughout Florida and cements our position as the second largest community bank headquartered in Florida. In this post, we discuss what this transaction looks like and detail why we did this.
Founded in 2006, Gateway is comprised of three banks with three overlapping, but different, boards of directors. Largely a commercial bank (99%), Gateway produced a 8.4% return on equity last quarter, with a 0.48% cost of funds, a 74% loan-to-deposit leverage ratio, an efficiency ratio of 68%, noncurrent loans to total loans of 0.05% and a Tier 1 risk-based capital ratio of 12.8%. The hallmark of the bank has been steady growth as over the last three years they have averaged a consistent 20% per year.
We paid $132mm for the transaction, 70% in stock and 30% in cash for a tangible book value of 1.48x or a 12.3x multiple to trailing earnings with cost saves factored in. At present, we are slated to close the transaction during the second quarter of next year.
As mentioned in the past, every acquisition must fulfill a strategic purpose and not just add bulk for asset’s sake. Similar to our Platinum Bank acquisition that we announced in October, this transaction helps us add scale to our platform. In our quest to get our efficiency ratio significantly lower, Gateway helps us add loans, deposits and customers to our existing infrastructure without adding too much complexity. The expected cost saves are 35% with 75% of that coming in 2017 and the remainder savings coming in 2018.
While not as pure a scale play as Platinum was, Gateway also helps us gain needed market share in three important markets. We gain pricing power and brand in the Daytona Beach and Gainesville. In these markets, we had a presence, but Gateway gives us material market share in which to build a dominate position. The Gateway acquisition also gets us a major presence in the Sarasota-Bradenton market where we had no material foothold. Once consolidated, this will put us within $1B of having the largest deposits of any bank headquartered in Florida.
Also similar to Platinum Bank, we have worked with Gateway on many projects over the last seven years, so we know (and have been impressed) their management, markets, and business methodology. This combined with our ability to keep key management under contract and our confidence in our due diligence gives us lower than average variability over expected future cash flows.
Our target is to earn back our tangible book value premium quickly and this transaction should result in tangible book value dilution that is earned back in about one-and-a-half years.
The Buy/Build Decision
One highlight of this transaction is that it underscores the buy/build decision. When we talk about moving into new markets such as Sarasota, we talk about spending $1mm in expenses to build a brick-and-mortar platform plus about a million dollars of operating expenses. Today’s current rates, combined with the economy nearing the top of the credit cycle in the next four to five years, makes building a new market a difficult economic proposition. In our best scenario, it would take at least five years and most likely more than ten years to earn back our dilution. The problem you have with building a new branch is not only the fact that deposit attribution to profit is low, but you are taking on new credit at a high rate of speed in order to break-even. This means that likely your average credit is more volatile than your existing portfolio which compounds the problem of breaking even on a risk-adjusted basis.
It is far better to pay a premium and take on assets that are seasoned, known and more stable as to credit and economic value. Instead of a five to ten-year break-even, the Gateway transaction helps us accomplish our tactical objectives in less than a two-year breakeven.
The Gateway transaction is a textbook acquisition that allows us to scale as well as extend into new, attractive markets. Combined, the acquisition increases our pricing power within the State while adding desired commercial customers. The transaction is immediately accretive to earnings and represents a relatively low-risk set of cash flows because of our confidence in their management team.
Submitted by Chris Nichols on December 01, 2016