Bridgewater Bancshares: Market Disruption Beneficiary

Mar. 21, 2022 12:01 AM ETBridgewater Bancshares, Inc. (BWB)12 Comments9 Likes
Jeremy Blum profile picture
Jeremy Blum
6.82K Followers

Summary

  • Bridgewater is one of the few banks you’ll find with sustained 20%+ organic asset, loan, and earnings growth.
  • Yet, it trades at a PE ratio of under 12 similar to the average bank growing at 5% a year or less.
  • Bridgewater has benefitted from merger disruption in its local market (Twin Cities) leaving it one of the last community banks.
  • I believe the growth is sustainable for the foreseeable future and Bridgewater should be treated like a growth stock.
Growing Graph

Eoneren/E+ via Getty Images

Sometimes you’re really good, and sometimes you just get lucky. Bridgewater Bancshares (NASDAQ:BWB) has been both. It has enjoyed over 20% organic average annual asset and loan growth and over 25% annual net income growth over the past four years. Most banks are fortunate if they can grow over 5% organically a year. The growth has all been organic, there have been no recent acquisitions.

This article will explore how are they getting this growth, how sustainable, and what the bank should be valued at.

Background

Bridgewater is based in St. Louis Park, Minnesota, a suburb of Minneapolis. It was formed in 2005 by investors and local bankers including the current CEO. Its IPO was in 2018. Bridgewater has an asset light model. It only had 8 branches as of June 30, 2021. It focuses on commercial real estate lending but also has a large portfolio of commercial loans. The bank is quite plain vanilla. There are few activities outside of loans and deposits. There is no wealth management, insurance, investment banking, trust or other activities many other banks get into. About 85% of loans are made within its Twin Cities market.

Financials

Financial results for the last 5 years are summarized below.

Historical financial results

Bridgewater 2021 Form 10-K

The growth history isn’t just recent. It has been consistent going back at least 9 years. In fact, loan growth was so fast, deposits couldn’t keep up. The bank addressed this by pursuing brokered deposits, and focused marketing more on local deposits. It was able to reduce the loan to deposit ratio to 96% on December 31, 2021, from 107% three years earlier. But the bank’s cost of deposits is still above its peer median. This is more than offset by a higher than peer asset yield.

Often, when a bank grows faster than its peers, it does so by underpricing. That leads to a below peer asset yield and less cushion to absorb losses. Bridgewater actually has an above average asset yield, at over 4% in 2021. They claim this was not done by taking more risk but by better service and a quicker turnaround. This is corroborated by their low loan loss history.

The Local Bank Market

A big part of the investment case here is the local bank market. There have been numerous mergers in recent years, where out of state banks have acquired local ones. The result is there remains one large local bank (U.S. Bank) a midsized local bank (Bremer) and Bridgewater among those of any size serving the Twin Cities market. I was a career banker working for community banks like Bridgewater. I have consistently seen that a well-run community bank can easily and consistently take market share from the largest banks due to better service. The problem is most are not that well run. The chart below shows bank market share in the Twin Cities MSA as of June 30, 2021 (the most recent FDIC numbers available).

Twin Cities bank market by deposits

Bridgewater Form 10-K

As shown above, two huge banks have about 2/3 of the market. Ameriprise is listed as headquartered in the area, but that is a bank attached to a nationwide financial planning firm and not really a local competitor. In fact, they have few loans. Huntington entered the market in June, 2021, by acquiring TCF Bank. Bridgewater has recently picked up employees from TCF, including the Investor Relations person I spoke to. Bremer is 92% owned by The Otto Bremer Trust, a charitable trust. The Trust has declared an intention to sell the bank. Pushback from the bank has led to the Minnesota Attorney General suing the Trust to remove trustees. That shows a deep concern by the State over losing local banks. Old National acquired its way into the market in 2017 and 2018 by acquiring two local banks.

The result of all this is Bridgewater has become one of two preeminent local community banks, and if Bremer is sold, may be the only one.

Catalysts and Strengths

Bridgewater has a number of strengths and catalysts that appear sufficient to keep the strong growth going.

1. Very Strong Efficiency Ratio – The efficiency ratio was 42.0% in 2021, down from 49.0% in 2020. This ratio is a measure of profitability and lower is better. The peer median, per the FDIC in 2021 for banks over $1 billion in assets, was 61%. This is partially due to Bridgewater having few activities other than loans and deposits, resulting in less expenses.

2. Strong net interest margin– Bridgewater had a net interest margin of 3.54% in 2021, well above the peer median of 2.52%.

3. Large insider ownership – As of February 28, 2022, officers and directors owned 22% of the stock. This is a very high level for a bank. Jerry Baack, the CEO, helped found the bank in 2005 and owns 5%. He has been CEO since inception.

4. Market disruption – Recent in market mergers have led to the bank acquiring significant new business and employees. It has also drastically reduced locally based options for customers. If Bremer sells, this would add fuel to that fire.

5. Strong market – The median household income in the Twin Cities MSA is $83,698 well above $67,521 for the U.S. The population is also growing above the U.S. average at 10.3% in the decade ending 2020.

6. Strong history of growth – Bridgewater has consistently grown organically over 20% a year for at least 4 years. In fact, if you look at the 5 prior years (2012-2017), annual loan growth averaged 28.9% and earnings growth averaged 28.0%. Most banks are fortunate to grow only 5% a year. It has a proven track record of profitable growth. With two behemoths controlling two thirds of the market, there is a large runway for growth as larger banks generally provide less service, unless you are big enough to get their attention. Bridgewater has reached the size and recognition that it is now getting a look at much of the local deals that are available.

7. Low problem loans – On December 31, 2021, non-performing loans were negligible at only 0.03% of total loans. It was the same one year earlier. The history is good too. Bridgewater remained profitable during the late 2000s recession unlike many other banks.

8. Strong capital level – Usually high growth banks have to tap the equity window every now and then to fund the growth, diluting shareholders. With tangible net worth at 10.9% of assets, no dilution is needed for the foreseeable future. The lack of a dividend helps, as all profits go toward growing equity.

Concerns

There are some issues with Bridgewater which may partially explain the low valuation though none which are overly concerning.

1. Low liquidity – The stock trades about 38,000 share per day. Not illiquid, but difficult for a larger institution to take a position.

2. No dividend – Management has elected to put all of its capital toward growth. I agree with the decision, because most banks are not able to get their level of organic growth. But it does exclude a whole class of investors who are looking for a dividend. These investors are more numerous with bank stocks. If you are a growth investor, a lack of a dividend is a positive as it will take longer for any dilution to occur to fund the growth.

3. Rising interest rates – Bridgewater has a lot of fixed rate real estate secured loans. As such it is slightly asset sensitive. That means their models show income declines slightly in a rising interest rate environment. We are in a rising interest rate environment. This is partially mitigated by their growth. All newer loans are coming on at the new higher rates. Another mitigating factor is a high level and rapid growth of non-interest paying deposits. These are gold in a rising interest rate environment. Unlike other liabilities their cost doesn’t increase as loan yields go up. The result is likely to be EPS growth will trail loan growth somewhat this year.

4. Concentration of multifamily secured loans – Multifamily real estate loans were $910 million or 32.3% of the loan portfolio as of December 31, 2021. This type of property is currently highly in demand and there have been almost no historical losses.

5. Brokered deposits – Brokered deposits usually come from depositors outside a bank’s market area. They are usually higher cost and considered hot money. Hot money means, the depositor has no loyalty to the bank and will often move it elsewhere if another bank has a higher rate. Bridgewater’s brokered deposits were 14.3% of total deposits on December 31, 2021, similar to 13.9% two years earlier. This is not an excessive level but relatively high.

6. Recession – Banks stocks tend to decline in a recession even if they don’t struggle. Banking can be cyclical. However, the majority of U.S. banks performed well in two of the last three recessions.

Valuation

When it comes to valuation for banks, things like EBITDA and capex are mostly irrelevant. Depreciation, amortization and capex tend to be quite small relative to net income. The PE ratio is the most important. Price to book is next in importance, but more for banks that are struggling. Not the case here. Another factor is liquidity of the stock. Price to sales is not relevant as interest rates can impact revenues as much as growth.

Many banks that enjoyed rapid growth recently did it with PPP loans which is not sustainable and is currently reversing. Few banks get sustainable double-digit organic growth, though that number has increased in recent years. SVB Financial (SIVB) is the most notable. Most banks in recent years have had organic loan and asset growth of 5% or less. Bridgewater is unusual in that their growth has been 4X that and has been sustained.

To find comparables, I looked for other community banks with sustained double digit loan growth. These are shown below.

Comparable banks

Forms 10-K and Yahoo Finance

The six comparable banks have an ROE similar to Bridgewater on average and a loan compound average annual growth rate (CAGR) slightly above Bridgewater. First Western trades at a low PE ratio. This appears at least partially due to illiquidity in its stock well beyond the others including Bridgewater. I believe that Bridgewater has a slightly higher risk profile with its concentration in multi-family secured loans and moderate sensitivity to rising interest rates.

Based on the comparables, I believe Bridgewater should be trading at a PE ratio of 16 to trailing earnings. That puts my current valuation at $24.64. The stock closed at $17.56 on March 16, 2021. Assuming 15% earnings growth over the next year, my one year price target is $28.00. I used 15% growth instead of the 20% historical average to account for rising interest rates.

Takeaway

I believe Bridgewater can sustain at least a 15%+ growth rate for the foreseeable future. But it’s not being priced like the growth stock it is. In fact, the current PE ratio of 11.4 places it squarely among most banks organically growing 5% or less a year. This is a disconnect for investors to take advantage of. I recommend a long position in Bridgewater Bancshares.

This article was written by

Jeremy Blum profile picture
6.82K Followers
I was the Credit Manager for a mid-sized publicly traded bank and retired early in 2013. Despite never working in the industry, I took and passed the CFA Level 1 exam. I usually only write about companies that are my best ideas and I have a position in. I traditionally have invested in and written about small and micro cap deep value stocks. As an investor you can get an edge in researching and talking to management of small and micro cap companies that have little or no analyst coverage. About 50-75% of my portfolio are deep value stocks, primarily microcaps. That is historically where I have had the best returns.  Tipranks.com currently has me ranked in the top 1% of all Seeking Alpha and similar sites writers.
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Disclosure: I/we have a beneficial long position in the shares of BWB either through stock ownership, options, or other derivatives. 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.

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