FARMERS & MERCHANTS BANK/CA FMBL
October 26, 2013 - 7:53pm EST by
alex981
2013 2014
Price: 5,100.00 EPS $481.00 $481.00
Shares Out. (in M): 0 P/E 10.6x 10.6x
Market Cap (in $M): 668 P/FCF NM NM
Net Debt (in $M): 0 EBIT 92 92
TEV ($): 668 TEV/EBIT NM NM

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  • Personal Account Idea

Description

 

This idea won’t make anyone rich overnight, but as the market roars higher, cheap conservative names become relatively more attractive. If you’re looking for a stock that will double in the next 18 months, you can skip this one. However, if you’re looking for a very safe security that should be able to return 10%+ a year, read on. 

This one is limited to smaller funds and PAs because it’s not so liquid; although it’s a sizable company, it’s closely held and listed on the pink sheets. On average over the last year daily volume has been $150k, but it’s been drier than that in the last three months.

Farmers and Merchants Bank of Long Beach is a very conservatively run bank based in Long Beach, focused on commercial and small business banking in the Orange County area. CEO Henry Walker is the 4th generation of the Walker family to run the bank, founded in 1903. He is only 47 and will probably run it for some time to come.

FMBL trades at 89% of (tangible) book and a bit over 10x current year earnings. This doesn’t scream super cheap but I’ll argue on a cyclical and risk-adjusted basis, it is. Particularly the risk adjusted part.

When I say it’s conservatively run, I’m not kidding. The bank is hilariously overcapitalized (risk-weighted Tier 1 of 28%, Tier 1 of 14%) and could probably return half of their equity to shareholders and still be very well capitalized. It won’t happen, but they could.

Conservatism is their DNA. According to a 2008 LA Times profile, “Farmers & Merchants is mainly a commercial real estate lender. But unlike many others, it won't lend money to a business based solely on its cash flow, no matter how strong. Unless you are an exceptional longtime customer, don't try borrowing more than 50% of the value of the commercial property you pledge as collateral.” Their lending policies strike me as a bit extreme, but unsurprisingly FMBL made it through the crisis with only minimal loan losses. 

FMBL has a nice little franchise, and the crisis only made it better. Deposits soared from $2 billion in 2007 to $3.8 billion today. 40% of deposits are non-interest bearing.  Naturally, with their stringent loan policies, a lot of their assets end up in securities, chiefly MBSs issued by Fannie and Freddie. 42% of assets are in loans while 55% are in cash or securities. 

As with most other banks, FMBL’s NIMs have been crimped by the low interest rate environment. So far in 2013, FMBL has run a NIM of 3.25%; in the mid 2000s this was more like 4.5%.  Whenever rates go higher, FMBL will be well-positioned because of its low-cost deposit base. A 100bps increase in NIM would push EPS from $480 per share to over $700 per share. (Ok, not exactly that much because there would be a bit of an offset from lower fee income and maybe some outflow of deposits chasing returns, but it would be much higher).

The strength of FMBL’s franchise is somewhat obscured by their conservative capital structure as well as the current environment. ROAs in 2005 and 2006 were in the 1.8%-1.9% range (you more often see banks in the low 1s), but ROEs have been much more pedestrian because of the low leverage.  FMBL has a good franchise and is geographically concentrated, which keeps expenses low (efficiency ratio has been in the 40%-50% range over time). Again, I think FMBL will benefit more than others as rates rise because of their core deposits and low expenses, and overcapitalization.

Book value as of 9/30/13 was $5,737 per share. At the end of 2012, fair value of securities exceeded carrying value by about $85 million, or $650 a share before tax, as a sizable chunk had been purchased when interest rates were higher.  About 2/3rds of their securities portfolio has a maturity of 5-15 years so there’s a bit of interest rate risk there, but there’s a cushion and the duration isn’t huge so it’s not too worrisome. Also a rise in interest rates would be hugely beneficial for their overall business so any loss on their securities portfolio would be overwhelmed by gains elsewhere.

Because the bank is family run, it’s hard to imagine it ever being taken over. They did a major repurchase in 2008 at $7,200 per share in part to settle a lawsuit by some dissenting family members (in the profile, the CEO referred to the dissenters as “not really much of a branch of the family; more like a couple of leaves”).  Since the bank has grown rapidly in the last few years, I would expect them to continue to retain earnings. There’s a small regular dividend which is apparently enough to pay for the Walkers’ polo hobby. In a few years, if growth flattens, we’ll likely see another buyback or special dividend.

This is one you’ll have to buy and patiently wait. At the end of ZIRP and QE, it’ll be making a lot more. That could be a while off (or it may never happen), but you’re getting paid nicely in the meantime. Tangible book marked to market is probably well over $6,000, and I think there’s earning power of over $700/share over time. I reckon the stock is worth at least $8,000 based on P/E and P/TBV.

  2005 2006 2007 2008 2009 2010 2011 2012 2013 (9M ann)
Assets                  
Cash & Equiv 198 191 131 210 170 98 336 314 99
Securities HTM 1,282 1,021 1,019 965 1,240 1,471 1,565 1,942 2,220
Securities AFS 461 449 454 421 470 506 548 630 492
Loans, net 1,114 1,352 1,530 1,947 1,968 2,014 2,029 1,933 2,177
OREO         20 37 23 18 14
Bank Premises & Equip 24 24 35 56 53 52 55 61 66
Accrued Interest Rec. 16 17 17 15 16 17 16    
Net DTAs         26 27 29 26 24
Other Assets 19 19 19 24 18 39 59 65 52
Total Assets 3,115 3,073 3,205 3,637 3,981 4,262 4,659 4,989 5,145
                   
Liabilities                  
Demand, non-interest bearing 817 770 705 810 898 1,004 1,263 1,474 1,549
Demand, interest bearing 237 211 211 225 255 262 301 347 379
Savings & money market savings 633 487 423 508 626 754 910 1,011 1,071
Time deposits 453 597 673 1,133 1,064 983 920 854 837
Total Deposits 2,140 2,066 2,012 2,676 2,843 3,004 3,393 3,686 3,836
Repo 348 351 496 393 545 628 556 551 528
Accrued Interest & Other 8 7 7 7 6 7 40 35 30
Total Liabilities 2,496 2,424 2,515 3,076 3,394 3,639 3,989 4,272 4,394
                   
Stockholders' Equity 619 650 690 561 587 623 670 717 751
Shares Out 152,982 151,090 151,475 130,928 130,928 130,928 130,928 130,928 130,928
BVPS 4,046 4,300 4,558 4,284 4,482 4,759 5,119 5,477 5,737
TE/TA 19.9% 21.1% 21.5% 15.4% 14.7% 14.6% 14.4% 14.4% 14.6%
  2005 2006 2007 2008 2009 2010 2011 2012 2013 (9M ann)
Income Statement                  
                   
Interest Income                  
Securities HTM 49 50 46 44 49 48 49 47 48
Securities AFS 15 19 25 21 18 15 14 11 8
Fed Funds (Cash) 3 4 4 2 1 1 0 1 1
Loans 85 95 109 115 122 116 115 112 102
Total Interest Income 152 168 183 182 190 179 179 171 160
                   
Interest Expense                  
Deposits 14 22 29 28 16 10 8 6 5
Repo 7 13 18 8 3 2 2 1 1
Total Interest Expense 21 35 48 35 18 12 9 7 6
                   
NII 131 133 136 147 171 167 169 164 153
NIM (est) 4.21% 4.31% 4.32% 4.29% 4.49% 4.05% 3.79% 3.40% 3.03%
                   
Provision for loan losses (1) 1 6 53 41 26 14 0 0
NII after provision 133 132 129 94 130 141 155 164 153
                   
Non Interest Income 11 11 12 14 13 15 14 23 41
                   
Non Interest Expense 49 53 58 62 78 74 78 95 103
                   
Pretax Income 94 90 83 47 66 82 90 92 92
                   
Tax Provision 36 35 32 17 25 29 31 29 29
                   
Net Income 58 55 51 30 41 53 59 63 63
                   
EPS 370 363 338 219 311 405 452 484 481
                   
OCI (3) 1 5 5 (0) (3) 2 (1)  
                   
ROE 9.3% 8.7% 7.6% 4.8% 7.1% 8.8% 9.1% 9.1% 8.6%
ROA 1.9% 1.8% 1.6% 0.9% 1.1% 1.3% 1.3% 1.3% 1.2%
I do not hold a position of employment, directorship, or consultancy with the issuer.
Neither I nor others I advise hold a material investment in the issuer's securities.

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