First Citizens: Greater Reward, Uncertainty After Silicon Valley Bank Deal

It is rare to see a bank setting a 52-week high in this environment, yet shares of First Citizens BancShares, Inc. (NASDAQ:FCNCA) have risen some 50% at this moment of writing in response to the acquisition of the troubled Silicon Valley Bank of SVB Financial Group (NASDAQ:SIVB). The large deal, taking place at a big discount, creates real potential for investors here, and while the risks will increase a bit as well, I think that management has made a sound deal for investors.

An Intro & A Look At 2022

First Citizens BancShares, Inc. is a Raleigh, North Carolina-based bank. The company has origins dating back to the 19th century, and ever since the company has grown to a network of more than 500 branches while managing a more than $100 billion balance sheet.

The company has seen spectacular growth as of late, with the bank having completed its merger with CIT Group in January 2022. The deal meant that the asset base of the bank rose from $58 billion by year-end 2021 to $109 billion by year-end 2022. The bank is largely funded by deposits, totaling more than $89 billion by year-end as the company has seen deposit related expenses increase rapidly throughout 2022 amidst the aggressive hiking cycle by the FED.

Fourth quarter deposit interest expenses came in at $176 million, trending at $700 million a year, with average interest payments on deposits trending at 78 basis points. The remainder of the bank was financed by some regular borrowings as well as a near $10 billion equity base.

The company owns a loan book of nearly $70 billion as the bank's cash and liquidity position has fallen to $5 billion and change. Investment securities held for sale, or held to maturity, exceeded $19 billion by the end of 2022 as the company posted an unrealized loss on these of nearly a billion, relatively modest in relation to the size of the book and the equity position of the firm.

Based on the fourth quarter results, the company posted operating profits at a rate of $1.6 billion, indicating that the company could hike deposit rates by nearly 2 points before moving into lossmaking territory, in fact about 180 basis points. This means that the bank could raise deposit rates to about 2.5% across the board, without moving into lossmaking territory, which looks better than it is as Federal Funds rates stand at 5% currently.

A Great Bank - Trying To Get Greater

The reality is that the bank has attracted quite some applause from investors for its dealmaking track record. The company has five-folded its asset base to more than a $100 billion over the last decade. A $500 stock pre-pandemic rose to a high of nearly $900 in 2021, as shares recovered to $850 in 2022 again amidst the CIT deal.

Following the turmoil in the banking sector, shares fell to $500 in recent weeks, trading below book value of around $600 per share, as shares have now rebounded to a fresh high around $900. In fact, the stock is trading up more than $300 per share on the day, increasing the equity valuation of the bank by $4.4 billion

The company has reached a deal with the FDIC to acquire the Silicon Valley Bridge Bank. The bank is acquiring $110 billion in assets, of which $72 billion is in loans, in part financed by $56 billion in remaining deposits. Needless to say that the ratio of deposits to loans is very flawed, but that is the result of the troubles at SVB, of course. While the strategic rationale can be questioned as the company acquires just 17 branches, the company has obtained a $16.4 billion discount to the assets.

This comes as the bank has paid just $93.6 billion to acquire the $110 billion in assets, consisting out of $35 billion in cash, $72 billion in loans and some other assets. With deposits down to $56 billion, the company has borrowed nearly $35 billion from the FDIC in a five-year note which carries a fixed rate of 3.5%, which is steep, but should cover current rates on the loans outstanding.

The FDIC will furthermore share in 50% of the losses on commercial loans in excess of $5 billion, as the FDIC obtains a value appreciation instrument which could be valued as high as $500 million. Pro forma deposits will increase to $145 billion in relation to a $143 billion loan book, although it has plenty of cash to provide liquidity of course.

While the company will likely incur some losses and the outlook will be uncertain in this environment, the reality is that the discount of $16.4 billion alone is in excess of $1,000 per share in terms of First Citizens BancShares here!

A Nice Deal, Adding Risks

The reality is that the deal looks nice, as the bank obtains a 23% discount on $72 billion in assets. The deal will likely increase both the risk and the rewards as well. Given the discount offered and the FDIC assurances, this means that the deal looks good, as I understand the big move higher in the shares. If the company can execute, further upside can be seen in the shares, but the counterargument is very much the case as well.

Quite frankly I expect the share price reaction to be higher volatility here, both to the upside and downside, as sentiment could change rather quickly. The reality is that First Citizens BancShares, Inc. likely comes in ahead in the long run, but the downside risks have likely come a bit fatter as well.

This is the idiosyncratic risks related to investing in the financial sector, as this skewed risks profile makes me literally hesitant to invest in the sector at large, although I still cannot escape the feeling that First Citizens BancShares, Inc. management has made a sound deal for investors.

Editor's Note: This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.

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