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Up North...

Regional banking is one of the most interesting sectors for analysis in my mind. Many of the companies in this sector are small and thus confer individual investors a large advantage as larger funds, institutional investors and investment houses simply cannot expend the resources to cover these stocks. Whenever there are fewer eyes on a sector, there is a higher chance that people are going to miss something and consequently, opportunities for value arise.

In an earlier article I discussed why I found Hawaiian regional banking to be an attractive value proposition. The business has a huge competitive moat - it's called the Pacific Ocean. I believe that there is another sector of banking located in a state not part of the contiguous 48 - it's Alaska.

First National Bank Alaska (OTCQB:FBAK) has been operating since before Alaska achieved statehood. The management of the company is frugal, the share structure encourages long-term holding and the price of the business currently is fair. Going forward, I believe that the bank can enjoy growth both organically and through acquisitions.

In my earlier articles on regional banking, I've outlined why I believe some regional banks can make good investments:

1. Depth of management.

The management of small banks often hails from the area in which they are located, giving them an intimate understanding of the community in which their business operates and its specific needs - allowing them to tailor services and to make prudent decisions and loans reflecting their experience "on the ground." In addition, there is often significant insider ownership, which helps to encourage the prudent stewardship of minority shareholder capital.

2. Partial insulation from volatility affecting large money center banks

By virtue of obscurity and low volume, shares in regional banks are less subject to broader market carnage that can plague their mammoth cousins. As they are smaller operations with simpler balance sheets, regional banks are also often absent from national media and receive much less bad press when bank-related turmoil occurs. In addition these banks are straightforward operations and do not participate in speculation or related complex trading activities that can often create significant problems for other, larger banks.

3. Regional dominance and competitive advantage.

In the case of First National Bank of Alaska I believe that the advantages are clear, it's right in the name. Geographic remoteness provides the bank with a significant advantage over its national competitors. Like Hawaii, Alaska also operates in a different time zone, which makes it more difficult for national banks that lack a specific focus on the state to operate in. Though First of Alaska isn't the only game in town, it is one of the largest by market capitalization and one of the oldest, having recently celebrated its 90th year anniversary.

By virtue of the state's isolation from the rest of the country, its economy is both insulated from negative developments in the "Lower 48" and requires a higher degree of regional familiarity. This economic resilience combined with the degree of specialized knowledge required to operate in this environment provides First of Alaska with a healthy competitive advantage in my mind.

The Numbers on First National Bank Alaska

With a P/E ratio slightly under 15 and currently priced at $1,752 per share against $1,416 of assets and $327.34 of cash, shareholders are paying a fair price for the shares of the company in my view, as the return on average assets is higher than 1% and the company pays a dividend currently yielding 2.85%, with a payout ratio of .68. The company is small, with a market capitalization of $568 million.

I often look to companies with long operating histories when I seek to make an investment. First National Bank Alaska has been in business for over 90 years, proving that it is more than capable of weathering financial headwinds in tact. Evidence of this hardiness is obvious, as one needs only to glance at a 10-year chart of the company to see it reached a 10-year low of $1,430 during the financial crisis in 2009 - only 19% lower than its current price.

I believe that for investors who want to invest in banks yet have a low tolerance for volatility, First National of Alaska appears to be a very attractive option.

The company also has a history of rewarding shareholders with special dividends, most recently in 2010. The company's regular dividend was halved during the financial crisis from $25 per share to $12.50 per share. In addition, the company also is able to maximize shareholder return through stock repurchases.

I believe that if the economy of the United States further strengthens and interest rates begin to rise, the company has the potential to raise its dividend due to the higher risk-free rate. If returned to previous levels, the shares of the company would be very attractive to income-oriented investors in my mind as the shares would have a dividend yield of over 5% annually if purchased at current price levels.

The shares of the company are also very well capitalized, with their capital requirement ratios much higher than regulatory minimums. Tier 1 and Risk based capital ratios well in excess of regulatory minimums combined with its long operating history indicate to me that First of Alaska is very solid.

Attention to Detail: Why I like the Management of This Bank

At the end of the day, it's people who run companies. If their interests are not aligned with minority shareholders, I believe that it is extremely difficult to realize value in the long run. After reading hundreds of corporate reports, I begin to notice the little things and use my observations as a template to make qualitative judgments about the company's management. Such as seeing the management go to great lengths to cut costs that would be normally perceived as "insignificant."

I am very happy with the people at First National of Alaska because of their commitment to frugality and both their logical and inventive methods taken to reduce costs. The company de-listed its stock recently in order to reduce costs associated with SEC regulatory compliance. While many companies do this, they are often small - under $100 million dollars in market cap while First of Alaska has a market capitalization of over $500 million dollars. I believe delisting was extremely logical given the highly illiquid nature of the securities (which rarely trade more than 50 shares a day), the high price of shares and speaks to the frugal nature of the management.

The company also has taken an innovative approach to reducing taxes, acquiring tax credits provided by the State of Alaska to incentivize film production in order to realize savings. In all the reports I have read, I have never come upon something so unique and inventive before. This level of devotion to cost cutting is something that I am very happy to see, as it indicates a commitment to savings has thoroughly diffused throughout the enterprise.

Potential for Acquisitions

Regulatory mandates enacted after the financial crisis have made it much more difficult to run a small bank. This has opened up significant opportunities for consolidation in the regional banking sector. Medium sized regional banks are able to purchase smaller Thrifts or Savings and Loans and absorb their deposits. Accretive acquisitions can translate into significant advantages for regional banks, allowing them to grow in size and geographic footprint, offering the prospects of increased market penetration and the ability to source and maximize profitable loans. A small bank covering several counties is only to make loans in those counties, which may be suboptimal relative to the market in the rest of the state. A larger bank with a statewide presence can purchase this bank and make productive use of the deposits to fund loans in other more profitable parts of the region thus unlocking significant profit potential.

It takes but a brief search to find many regional banks in Alaska, which are under $100 million in market capitalization, providing First National ample opportunities for expansion. I believe that if the company pursues any acquisitions, it will be very prudent and frugal in the process. Accretive, or "bolt-on" mergers are compelling in regional banking, as First of Alaska simply has to assume customer deposits and loan them out. With a return on assets over 1% - the company is well situated to leverage its large size (relative to other banks in the area) to generate significant profits from acquisitions.

Potential Risks

The Alaskan economy has historically been insulated from the lower 48 states, however it is not immune from downturns. The state relies heavily on both natural resources and tourism, and a decline in the value of the former or the frequency of the latter could potentially result in a higher rate of loan defaults as the industries and individuals that depend on these sources of revenue begin to suffer.

The economy is also deeply tied to the environment, as natural disasters or events such as the decline in fishing stocks could damage the livelihood of many citizens.

The lack of liquidity and high price of the stock is also something that investors must also be fully appraised of. This company is not one for traders, and I believe that it is a company ideally suited for investors who want to make a long term or permanent commitment. While I think that the possibility is remote, stocks of this nature that are extremely thinly traded are also vulnerable to exogenous events and even manipulation.

Priced at over a thousand dollars per share, the company also provides a high barrier to entry for investors - in a similar way to Berkshire Hathaway A-shares, the higher price encourages long term holding, reduces trading "noise" and attracts the "right kind" of capital.

Final Thoughts

For investors seeking a stable and well run bank that offers a healthy yield with the potential to increase, I believe that First National Bank Alaska represents an excellent option. While the bank is currently not offered at a discount, I believe that it is a classic example of a "good company at a fair price."

I believe that Alaska represents a naturally advantaged state to do business in as it has been historically insulated from the economic volatility impacting the rest of the country. In addition, residents of the State of Alaska enjoy low taxes and receive payments from the Alaska Permanent fund, two factors which I hope will encourage savings and deposits by the general population - translating into a larger deposit base for First of Alaska.

While I do not believe that the company will achieve "breakneck" growth, I think that it is very likely that the company could also engage in accretive acquisitions in the coming years, as absorbing the deposits of smaller regionals will allow the company to leverage its relatively high return-on-assets ratio and geographic footprint in order to make more profitable loans.

Source: First National Alaska: A Well Capitalized Regional, A Healthy Dividend And An Insulated Market