Plumas Bancorp: Investors Should Take Note Of This Turnaround Story In Regional Banking

| About: Plumas Bancorp (PLBC)
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Needles in the Haystack

Whenever there are fewer eyes on a sector, there is a higher chance that people are going to miss something. With this neglect comes opportunities to realize significant value in the underlying business. Given the vast size of the sector and the small size of many banks, investors are well served to hunt for value in regional banking. Readers who are following my articles will notice that I am especially drawn to the sector for these reasons.

Even though searching for real bargains in a sector with hundreds of names may be difficult and akin to finding a "needle in a haystack," the effort is worth it as there are some gems to be uncovered. Having been ravaged during the financial crisis and subject to increased regulation and stringent lending standards, surviving regional banks are often perfect examples of my "small and hardy" investment strategy.

Furthermore, by virtue of their small size, many of the companies in this sector confer individual investors a significant advantage as larger funds and institutional investors cannot expend resources necessary to research or acquire a meaningful position in these companies..

One regional bank that I have identified as being a promising candidate is Plumas County Bancorp (NASDAQ:PLBC). Operating in California, the company is both trading at a bargain valuation and has several catalysts on the horizon. I believe that investors will stand to benefit significantly from this turnaround story.

Why I Like Regional Banking

In an earlier article, I summarized what I believe are a few of the cardinal virtues of regional banking:

1. Depth of management.

The management of these 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 reflecting their experience "on the ground." In addition, there is often significant insider ownership which helps to encourage the prudent stewardship of shareholder capital.

2. Partial insulation from volatility affecting large money center banks

By virtue of obscurity and low volume, shares in regional banks are often less subject to broader market carnage that can plague their larger 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.

3. Opportunities for organic growth into nearby areas.

As long as it does not destroy long-term value, growth is a good thing. I believe that some regional banks are well positioned to continue slow and stable growth into nearby geographic areas through acquiring nearby regionals. A bank with intimate experience in the market of one state is likely to have at least some traction with the market one state over. You probably have some knowledge of your nearest neighboring municipality right?

I believe that Plumas Bancorp offers all of these qualities to investors. Given its regional focus, the company has a logical path for future growth and penetration in the Northeastern California market. Management of the company is also local.

What Plumas County Bancorp Does: Nothing Complex (and That's Good)

Plumas Bancorp serves seven counties in Northeastern California through eleven branches and fifteen ATM locations. The company has been in operation since 1980 and has gradually expanded its presence over the past three decades. Over 50% of the company's business comes from mortgage lending, with commercial, constructing and agricultural lending comprising the balance of the company's lending activities. Agricultural lending is one niche that I find particularly interesting, given its essential nature and the fact that it is not correlated to broader real estate trends.

Despite its focus on rural markets, the company has recently expanded its operations into Redding, one of the largest cities in California north of Sacramento. Per the company's most recent 10K, Plumas has a 1% deposit share in the Redding market, leaving considerable room to grow in the future.

The Numbers on Plumas County Bancorp

With a market capitalization of approximately $33 million, the company is tiny. Currently priced at $6.26 against $6.93 of assets the company is currently offered to shareholders at a discount. Insider ownership in the company is significant, with ownership of 20%. The company's Return on Assets (RoA), an important metric used to judge the effectiveness of banks, is improving and currently stands at .74% for the most recent quarter, up from .42% for the year of 2012.

I typically try to purchase shares in regional banks that have a RoA at or greater than 1%, a number which is an important hurdle to overcome and indicates a bank is a high quality institution. Since I began covering this sector, I have typically found that regional banks with a 1% or greater return on assets were able to weather the recession without accepting TARP money and were able to continue to pay shareholders dividends. I will return to this discussion later in this article.

Since the company received an infusion of TARP capital during the financial crisis, the bank has been able to shore up its balance sheet. The Tier 1 Leverage and Risk-Based capital ratios of Plumas are well in excess of the regulatory minimum and more than twice the levels required to be considered "well capitalized" under regulatory standards, standing at 10.3% and 13.9% respectively. The Total Risk Based Capital ratio of the company stands at 15%, 5% higher than the amount required to be considered "well capitalized" under regulatory standards.

Catalyst One: Consolidation on the Horizon

As a result of increased bank regulation after the financial crisis, small regional banks have been increasingly burdened with costs and exist in a difficult to navigate regulatory environment. For a family owned, "one town" bank that has weathered the difficulties of the past half a decade, complying with additional regulations represents a heavy burden. As a result, many smaller banks are being purchased by (or selling out to) larger banks in the region. This trend in the sector makes investing into well capitalized small banks an attractive proposition for several reasons, the first being that these smaller banks are often trading at depressed valuations despite improving earnings and making higher quality loans and the second is the embedded call option that investors receive on any merger activity, where they will likely receive a one time premium for their shares.

The impetus for mergers in this sector is natural, as larger banks are able to leverage their size to better navigate the costly compliance regulations. As such, these banks are able to make accretive acquisitions and generate substantial savings through the elimination of redundant regulatory costs. For regional banks, acquisitions are particularly advantageous due to the "bolt-on" style of acquisitions in the sector. Existing deposits and branches of the purchased bank are simply subsumed into the larger entity, which needs simply to "change the name" on the sign.

I believe that Plumas Bancorp, having repaid its obligations under the TARP program, is well situated to be acquired by a nearby bank for these reasons given its small size.

Two companies in the same area as Plumas County Bancorp, Sierra Bancorp (NASDAQ:BSRR) and North Valley Bancorp (NASDAQ:NOVB), stand out as potential acquirers given the fact that they are between five and seven times as large as Plumas. Given the size of Plumas at $33 million, I would estimate potential acquirers would likely be between $120 million and $300 million in size.

Despite the fact that an acquisition would produce a one-time value realizing catalyst for shareholders, I believe that the company will continue to enjoy growth as a standalone entity for several reasons. In the company's most recent 10K, the management discussed the exit of a larger player in Northeastern California market, Bank of America, from two counties (Plumas and Modoc county), something the bank believes will help increase their asset base and share of deposits in the region.

Catalyst Two: With TARP Money Repaid, Shareholders Stand to Benefit

If one examines the history of Plumas Bancorp it becomes immediately evident that the company shrunk to a shadow of its former self during the financial crisis. During this period of crisis, the company was forced to accept TARP funding to shore up its capital base. This capital came with several conditions, including the cessation of dividends to minority shareholders. Recently, the company announced that it was recently able to repay its TARP obligations. Now that the TARP money has been repaid, the company is free to return capital to shareholders through dividends, something that I believe is likely to be resumed in the near future. Now that the company is free from paying interest on its TARP capital, I believe that the company will be able to efficiently deploy this money into profitable lending which will lead to further improved RoA numbers and/or a dividend being reinstated. Should this occur, I believe that the company will experience significant appreciation upon the announcement of a reinstated dividend as the company will become attractive to a larger group of investors seeking income from dividends.

Though it is often irrational to overpay for shares of a company that has recently announced the reinstatement or increase of its dividend, investors who have purchased the asset before such announcements stand to benefit considerably.

In addition, as the financial condition of the company improves, the bank will possibly be able to further reduce its loss reserves for bad loans, as it has done of late. A reduction of loss reserves enables more capital to be utilized in profitable lending activities and thus increasing the earning power of the company.

There has been also clear evidence of the earnings power of the company improving through operating metrics with the company posting several quarters of significantly improved operating earnings, most recently reporting a 41% increase in Q2 net income and an 84% increase in net income for Q3 of 2013 , helping to confirm my belief that a turnaround is in progress. As the company enjoys the freedom to deploy more capital for profitable lending not tied to loss reserves or paid in interest because of TARP Asset obligations, shareholders will see the earnings of the company continue to improve. In addition, the company will also benefit in the near term from new branch locations to attract deposit share and the exit of competitors from its niche markets.


As with any regional bank, Plumas Bancorp is vulnerable to the deterioration of the economy in the region that it serves. I would caution investors seeking to make a long-term investment in the company to be familiar with the region and any long term demographic trends that could potentially arise.

Another risk to the operating performance of the bank are the potentially onerous costs of regulations, the cost of which can potentially burden the company significantly should it remain an independent entity in the future. Larger banks retain a significant advantage over their smaller counterparts in this space as they are able to absorb regulatory costs and in some instances avoid certain regulatory costs entirely due to their larger size and asset base.

Another source of risk is structural, given that the stock of the company is illiquid and is thinly traded. The purchase or liquidation of a large block of shares has the potential to cause extreme volatility in the short term; however these volatility events could potentially create opportunities for shrewd investors that make use of limit orders.

Final Thoughts

If you have been following my work on regional banks you will have noticed that Plumas represents an exception to the other small banks I have covered. Nevertheless, I believe that the company represents an excellent "turnaround in progress" investment given the fact that it is trading at a discount to book value and is returning to normalized earnings. The company's current discount to book value make this an attractive purchase for investors willing to wait for a turnaround story to manifest itself, particularly given the fact that the current regulatory environment makes this company an attractive acquisition target. As a standalone entity, I believe that the company will continue to prosper as it seeks to further penetrate its current markets and to expand into more populated areas, such as Redding, California, while a resumption of dividend payments would cause the stock price of the company to significantly revise upward as its earnings continue to improve.

Disclosure: I have no positions in any stocks mentioned, but may initiate a long position in PLBC over 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.