Description

People's Bank is a medium-size ($10.7 billion in assets) bank founded
in 1842 and located in Bridgeport, Connecticut. The bank's stock is a
classic hidden value. A little bit of digging reveals that the stock is
spectacularly cheap. Most people aren't aware of the undervaluation because
they haven't asked a seemingly prosaic question: how many shares are
actually outstanding?

A company's shares outstanding shouldn't be open to debate, but they
are when it comes to the strange world of banks and thrifts that have a
"mutual holding company" as part of their structures. When People's came
public in 1988, they set up a mutual holding company to "hold" the
majority of the company's shares. In accordance with US GAAP, People's
says it has a total of 61.2 million shares outstanding. The Mutual Holding
Company owns 36.5 million shares and the public stockholders own 24.7
million.

The true shares outstanding are 24.7 million, not 61.2 million. This
is because nobody really owns a mutual holding company. It's controlled by
management indirectly via a separate board of trustees and has been put in
place to protect management from a takeover (an aspect that's an obvious
negative, but one that should be addressed separately). If the MHC is owned
by anybody, it's owned by the bank. And who owns the bank? The stockholders!
If People's were to sell the MHC's 36.5 million shares in a public offering,
who'd get the money? The money would go right back into the bank, to the
benefit of the stockholders. If another bank took over People's, nobody but
the public shareholders would get the proceeds.

People's should earn $105 million in 2000. If we value the stock at 15
times earnings, in line with multiples paid in other bank mergers, then the
stock is worth $1.6 billion. On 24.7 million shares, which we believe is
the appropriate denominator, this represents a value of $64 a share. The
current stock price: 21.

Looked at another way, People's reported core earnings of $108 million
in 1999, or $1.74 per share. But this EPS figure was based on 62 million
diluted shares. On 24.7 million shares, EPS were $4.37. So the stock is
selling at just 4.8 times earnings!

Most analyses of mutual holding company setups try to predict what
would happen to per-share earnings and book value were there to be a sale
of the MHC shares to the public. A full, or "second-step" conversion
typically results in dilution to "true" EPS and BVS (tangible BVS was
$27.53 at 6/30/00) -- though there's "accretion" to reported EPS and BV.

In People's case, the bank is unlikely to ever convert. They have been
public for twelve years now and have never shown any interest in converting.
The MHC shares should be viewed as if they were authorized but unissued
common shares.

People's is a better business than the other mutual holding company
banks and thrifts, i.e., Brookline Bancorp (BRKL), Oneida Financial (ONFC),
Alliance Bank (ALLB), Baltimore County Savings (BCSB), and their ilk,
because People's actually makes respectable amounts of money. Return on
assets exceeds 100 basis points. Return on tangible equity is in the
mid-teens. The efficiency ratio is 55%.

Also unlike most MHC thrifts, People's is well-protected from jolts in
interest rates. It's unbelievable how mismatched some of those other thrifts
are. At People's, a 200 basis-point change in rates would hurt their
"income at risk" ( a variant of net revenue) by just 3%.

A huge, huge plus for People's is that they're growing their deposit
base. The vast majority of the banking industry is a having a hell of a
time just keeping the deposits they already have. People's deposits are up
7% in the 12 months ended June 30, 2000. This means they're under less
pressure to fund new loans with high-priced borrowings.

Asset quality is good. Nonperforming assets are less than 0.6% of
loans and OREO.

Credit card loans represent one third of managed earning assets.
People's has been having trouble with this business because of heavy
competition -- issuers are getting more and more desperate in their
solicitations -- and because People's hikes in rates charged to cardholders
have lagged behind the runup in People's cost of funds. I think they should
sell the credit card business to a bank with bigger scale.

It's great that People's is repurchasing their stock. They bought back
10% of their non-MHC shares in 1999 at an average cost of 29 1/2. At big
discounts to intrinsic value, major repurchases increase intrinsic value
per share dramatically.

Finally, I think that People's has an enormously attractive banking
franchise in a state with one of the highest per capita incomes in the
country. Banks of People's size have proven to be just what the bigger banks
have been looking for in acquisitions. I think that Fleet, Chase, or
Citibank would fall all over themselves to get their hands on this bank,
and make an offer at a nice premium that this management couldn't refuse.

Catalyst

Share repurchases, possible takeover, bank stocks' return to favor as in
'91-'93, publicity about how the true P-E is less than 5x.