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BANCORP INC TBBK S
December 07, 2023 - 8:26am EST by
T0YPAJ182
2023 2024
Price: 38.93 EPS 3.64 4.34
Shares Out. (in M): 54 P/E 10.7 9.0
Market Cap (in $M): 2,089 P/FCF 0 0
Net Debt (in $M): 0 EBIT 0 0
TEV (in $M): 0 TEV/EBIT 0 0
Borrow Cost: General Collateral

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Description

I recommend taking a short position in The Bancorp (TBBK). At a high level, TBBK is trading at a stretched valuation despite unsustainable earnings, a vulnerable loan book, and signs of aggressive accounting.

 

Background

TBBK is no stranger to VIC, having been pitched as a long five times in the past, most recently in 2019. TBBK gathers deposits through its payments business, which is accessed by TBBK-issued prepaid or debit cards. TBBK, similar to its competitor CASH, benefits from a very cheap deposit base, which was 2.5% on $6.41bn of average deposits and liabilities as of 3Q23 (inclusive of $100mm of borrowings). TBBK makes money from transaction fees on these prepaid cards (i.e. non-interest income), as well as from interest income from interest earning assets. Interest income and non-interest income mix for 3Q23 was 77%/23%. TBBK lends money through its main lines of specialty lending:

  1. Real estate bridge loans (REBL) – competes with Arbor Realty Trust (ABR)

  2. SBLOC, IBLOC and Advisor financing – competes with TriState Capital and Goldman Sachs

  3. Small business loans (SBL) – competes with Live Oak Bank (LOB)

  4. Direct Lease financing – competes with Enterprise

SBLs consist of non-real estate (19%), commercial mortgage (78%), and construction (3%). In addition to TBBK’s $5.2bn loan book held for investment, TBBK holds $380mm in commercial loans, held at fair value, of which $253mm are non-SBA commercial real estate loans. TBBK also holds $757mm in investment securities, available-for-sale on its balance sheet. 43% of these investment securities are federally-backed student loans, 21% are RMBS, and 19% are CMBS. 

 

Interest Rate Impact

Over the past year, TBBK has benefitted from the rise in interest rates. Net Interest Margin has expanded from 3.69% in 3Q22 to 5.07% in 3Q23. I recommend reading TooCheapToIgnore’s long thesis on Pathward Financial (CASH), one of TBBK’s main competitors in prepaid debit card banking (the other being GDOT), as to why CASH and TBBK benefit from higher rates. The vast majority of TBBK’s loans are floating rate, so as rates have increased, so has the average rate on interest-earning assets, which increased from 4.79% in 3Q22 to 7.35% in 3Q23. Deposit costs increase, however, at a slower rate than 30-day average SOFR. This spread between deposit cost and SOFR flows through to TBBK’s NIM. As rates begin to get cut in 2024, as the market is pricing in, this spread should narrow, and so should TBBK’s NIM. TBBK’s earnings should follow. 

 

After 3Q23, TBBK gave a 2024 preliminary EPS guide of $4.25 without assuming the impact of share buybacks (18% y/y growth). TBBK did $0.92 EPS in 3Q23, so it seems to me that TBBK management expects NIM to remain elevated. In addition to rates remaining elevated, TBBK’s guide assumes no deterioration in their loan book. Given my suspicion of TBBK’s loan book, I doubt the company manages to hit their guide.  

 

TBBK’s CRE Exposure

There are two main scenarios that I expect to play out over the next year that will impact TBBK’s business - either rates fall, or they remain relatively restrictive. If rates fall, TBBK’s Net Interest Margin will decline, and so will TBBK’s earnings. This is the simple part of the thesis. If rates remain relatively restrictive, TBBK’s vulnerable loan book will come into question, which has ~40% of its loan book (excluding loans held at fair value) tied to commercial real estate, the vast majority being real estate bridge loans focused on multi-family (Class B and C properties, or as TBBK calls “workforce housing”). 

TBBK’s real estate bridge loans, which account for 36% of TBBK’s loan book, are mostly floating rate bridge loans with three-year terms, and two one-year extension options. TBBK has $1.85bn in real estate bridge loans held at amortized cost. These REBLs have an average 71% LTV with a 9.30% interest rate. There is also $256mm in CRE loans that are held at fair value. These CRE loans have an average 75% LTV and 9.24% interest rate. In all, TBBK has $2.1bn in CRE exposure on its balance sheet with a 72% LTV and 9.24% interest rate. Below shows the geographic exposure of TBBK’s CRE loans.

So why is a small portion of TBBK’s CRE loans recorded at fair value and the remaining, which is most of TBBK’s CRE exposure, held for investment and recorded at amortized cost? Well, before Covid, TBBK securitized these loans and recorded a gain on sale. In 3Q21, after having paused its real estate bridge lending during Covid, TBBK resumed originating these REBLs. However, this time, TBBK decided to hold these loans for investment. These loans would be part of their loan book and are recorded at under amortized cost. I cannot think of a worse time to begin holding REBLs for investment than 2021/22.

 

State of Multi-Family

With respect to REBLs, TBBK competes primarily with short sellers’ favorite company Arbor Realty Trust (ABR). The recent short reports, whether on VIC or from Ningi and Viceroy, highlight the ongoing stress in multi-family, particularly where TBBK has its highest exposure (i.e. Texas). Higher cap rates, incoming supply, and rising renovation costs have all plagued the sector. In November, The Real Deal did a story on the state of Texas multifamily, titled “Multifamily goes from darling to distress in Texas.”

https://therealdeal.com/texas/2023/11/21/texas-multifamily-sees-distress-on-horizon/ 

So how does TBBK see the current state of multi-family? In 3Q23 earnings call, TBBK CEO Damian Kozlowski addressed the state of multifamily, saying “we haven’t seen deterioration at all in the multifamily.” Perhaps TBBK has been a nimble lender and has avoided the problems reported on in the press or from ABR shorts. I highly doubt it, though.

 

TBBK Borrower Case Study

In September 2023, The Real Deal wrote a story on one of TBBK’s borrowers, Three Pillars Capital, suing the bank over “excessive forced insurance.” This lawsuit is also disclosed in TBBK’s 10-Q.

https://therealdeal.com/texas/houston/2023/09/19/three-pillars-capital-sues-bancorp-bank-over-excessive-insurance/

Three Pillars borrowed $47mm from TBBK in June 2022 as part of its purchase of the 413,000-square-foot property. While the business tactics of the insurance may be questionable, I would focus more on the commentary the borrower provides on the state of multifamily properties in Texas. 

“The force coverage that they’ve forced down our throats is resulting in negative cash flow. It’s unsustainable. The property produces certain income and after the expenses to debt service, the property is losing a decent coin. We’re in a tough spot here. If the lender had to operate this property themselves, with this insurance policy, they would not be able to operate it and make it financially viable.” – Three Pillars Capital founder George Goyal

The largest real estate loan as of 3Q23 had a balance of $45.5mm, so this loan is one of, if not the, largest REBL outstanding for TBBK. So, let’s check on how the apartment building is doing financially since the article was written. This is the website for Del Mar Apartments in October.

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Now, the website, as of 12/6/23, is showing the chance to win 6 months free rent. I don’t even know how such a process can be ran in which you enter to win 6 free months, but to resort to such tactics seems like an act of desperation. According to Apartments.com, this apartment complex has 544 units. When I look at availability, I see that there are 143 units available (26%). Of these 143 units, 138 are available in December, three are available in January, and two are available in February.