Significant Synergies Create Value In This New York Bank Merger

Apr. 5.13 | About: Sterling Bancorp (STL)

Shares of Provident New York Bancorp (PBNY) ended Thursday's trading session with gains of 3%. The bank holding company with operations in the greater New York City area announced that it has entered into a merger agreement with Sterling Bancorp (NYSE:STL). In a response to the deal, shares of Sterling rose some 13% during the session.

The Deal

Provident New York Bancorp announced that it has entered into a $344 million merger agreement with Sterling Bancorp. Under terms of the deal, shareholders of Sterling will receive 1.2625 shares of Provident for each share they own, combined owning 47% of the new company.

Combined, Provident and Sterling hope to better serve the small-to-middle market consumer and commercial clients in the New York metropolitan area. Interestingly enough, the company will operate under the Sterling bank name as it has wider brand appeal. The combined back will hold approximately $7 billion in total assets.

CEO Jack J. Kopnisky commented on the deal, "This merger is a tremendous opportunity for Provident and a significant step in our strategy to expand within the greater New York metropolitan area. It provides greater diversity of product sets, clients and revenues streams while presenting considerable potential to build our small-to-middle market and consumer client bases. The combined business will be a more effective competitor in the marketplace than either company on its own."

The main rationale behind the deal are the significant synergies to be achieved. Both banks hope to save an incredible $34 million per year, or 18% of the total expenses each year. Excluding the impact of potential revenue synergies, the deal will be accretive to Provident's earnings per share in 2014.

The deal has been approved by the board of directors of both banks and it expected to close in the fourth quarter of this year. The deal is subject to regulatory approval and normal closing conditions.

Valuation

Sterling generated full year revenues of $124.4 million for the year of 2012, on which it net earned $20.0 million. As such it generated a 0.78% net return on its $2.5 billion large asset base. The acquired assets are well-capitalized, the Tier-1 risk based capital ratio stood at 11.5% at the end of the year.

Factoring in a 13% jump in Thursday's share price, the market values Sterling at $350 million. This values the bank at 2.8 times annual revenues, 17-18 times annual earnings, and 1.5 times its tangible equity.

Sterling pays a quarterly dividend of $0.09, for an annual dividend yield of 3.2% at the moment.

Some Historical Perspective

For long term investors in Sterling, the deal might be a new start. Over the past decade shares have gradually lost ground, trading with losses of 30% after shares peaked at little over $25 back in 2004. At current levels of around $11, shares did bounce back significantly from the lows of $6 in 2009. Note that investors did receive fat dividends in the meantime.

Investment Thesis

For the year of 2012, Provident generated full year revenues of $118 million on which the company net earned $19.9 million. The company is less profitable than Sterling, as it requires roughly $4 billion in assets to produce the same earnings.

The valuation at $403 million, values the bank at roughly 3.4 times annual revenues, 20 times earnings and 1.2 times its tangible book value.

Yet the deal is incredibly accretive to earnings per share, consequently the shares of both companies are rising on Thursday. The number of shares outstanding in Provident will increase from 44 million to an estimated 83 million, valuing the company at around $750 million.

Combined both banks generate annual revenues of approximately $325 million on which they earned $40 million over the past year on a pro-forma basis. Yet the estimated synergies of $34 million, really make the deal interesting, resulting in estimated after tax profits of $65 million in 1-2 years time. As such the valuation multiples for the combination come down to 3.1 times annual revenues and roughly 11-12 times annual earnings.

While these valuation levels are not a screaming buy, the valuation prospects for holders in either of the banks has increased dramatically. I would expect shareholders in both banks to benefit from this value-creating merger in the medium to long term future.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.