VIB Premium: Company 5

Preview: Company 5 is a small, OTC-listed bank that is currently in my basket of community banks. The company is trading at less than 80% of book value, which has become pretty rare in the current market. The bank also has fairly consistent earnings and low non-performing assets.

Article type: Portfolio position, the author is long at the time of publication.

County First Bank logoCounty First Bank (OTCMKTS:CUMD) is one of a relatively small group of community banks in the U.S. that is still selling below 80% of book value. That was one of the criteria I used in assembling a basket of community banks a couple of years ago. The other things I was looking for were: non-performing assets below 3% and positive earnings. CUMD ticks all of these boxes and I’ve added the company to my basket.

The bank is located in Maryland and has five branches, with its main office in La Plata. The bank was established in 1990 by local businessmen after many local banks in La Plata had ceased to exist, due to consolidation of the banking industry.

County First Bank is small, with just $234m in assets as of March 31, 2017. Book value at March 31 was $25.6m, which also equals the tangible book value. There are currently 960,079 shares outstanding. At the current share price of $20.73, the market cap for CUMD is $19.9m. The company is currently trading at 0.78x book value. It should be noted that the bid-ask spread is usually wide for a small, illiquid stock like this.

One thing you might notice when looking at previous annual reports of the company is that the number of outstanding shares has increased noticeably in the last few years. This is mainly due to a couple of stock dividends that the company has paid to shareholders, one for 8% in 2014 and one for 10% in 2015. These stock dividends don’t make any economic sense, as the company is just slicing up the same pie into more pieces, but these extra shares have not diluted shareholders either. CUMD also pays a small cash dividend twice a year. The stock currently yields 1.46%.

CUMD is a mediocre bank when looking at metrics like return on assets (0.49% in 2016) and return on equity (4.4%). That’s not surprising, given the sub-scale nature of this bank. An investment in this company is a bet on the cheapness of the assets and somewhat comparable to investing in a net-net.

Here’s an overview of the earnings and book value over the last few years. I don’t have the data for 2009.

Year Net income Shareholders’ equity Total assets Loans, net
2006 $2.1m $16.9m $155.5m $109.6m
2007 $1.8m $19.1m $160.4m $128.0m
2008 $1.4m $20.2m $165.5m $145.8m
2010 $1.3m $21.4m $182.5m $142.9m
2011 $1.1m $22.0m $184.3m $137.9m
2012 $1.0m $22.5m $198.6m $141.4m
2013 $0.9m $22.9m $207.9m $132.2m
2014 $0.7m $23.3m $209.5m $129.1m
2015 $1.1m $24.3m $226.4m $138.4m
2016 $1.1m $25.3m $224.8m $155.0m

I think this shows a fairly consistent, but unspectacular picture. There’s not been loan growth since the financial crisis. In 2016 the major loan classifications were: commercial real estate: 47%, residential real estate: 16% , construction: 18% and home equity: 14%. Non-performing assets at the end of 2016 were (by my calculation) $3.4m or 1.5%. This consisted of non-accrual loans of $3.04m and foreclosed real estate of $0.38m.

CUMD has managed to increase assets though, with investment securities totaling $49m at the end of 2016. That probably means that the bank has not been able to find enough sensible loans to make in the last few years. One other thing I noticed on the balance sheet is that 31% of the bank’s deposits are non-interest bearing. That’s a high percentage compared to most of the small banks that I’ve looked at. For most of them, non-interest bearing deposits were around 20% of the total deposits.

Compared to some of the other banks that I own, CUMD is not as overcapitalized. Average equity to average assets was 10.9% in 2016 and tier-1 capital to risk-weighted assets was 14.7%. These percentages well exceed the regulatory standards.

Management and directors own 20.7% of the outstanding shares. I was able to get this information from the OTCQB Certification, the ownership information is not mentioned in the proxy statements. There’s not really any insider who owns a good chunk of stock though, most just own 1% or 2%. I think that is a negative, because this means that individually, they don’t profit that much in the event of a sale. This makes it more attractive for them to keep collecting salaries and board fees.

Even though the chance for a takeover might be smaller given the ownership situation of the insiders, a small bank like CUMD could be an attractive takeover target. The stock has been left behind somewhat after the broad rally of bank stocks in the wake of Trump’s election. Many other banks have seen their stock rise significantly and this has given them a very attractive currency to use in a merger. It could make a lot of sense to use your own stock, priced at perhaps 1.8x book value, to buy another bank at perhaps 1.2x – 1.3x book value.

Many times an acquiring bank is able to cut a lot of costs after acquiring a bank. While reading CUMD’s annual report, I noticed one area where an acquirer could easily achieve savings: the board of directors. County First Bank had 13 board members in 2016! This seems like a very high number to me. I’ve not seen another bank this small that has this many board members. One director does not stand for re-election this year, but the company in its latest proxy has asked shareholders to give them the authority to elect two more! I don’t know how much board members are being paid at CUMD. This is not mentioned in the proxy statement.

There is no clear catalyst for this bank. It is cheap, however. There are very few banks left that trade at a meaningful discount to book value and that also show decent asset quality. County First Bank is one of that select group in today’s market.

Annual reports and call reports for the company can be found on OTCMarkets.

Update January 2, 2018: This write-up was published on the public blog after the offer by TCFC for CUMD was announced. The merger with TCFC closed today. The total consideration is $38.75 and consists of 0.9543 shares of TCFC (latest market price $38.30) and a total cash consideration of $2.20 ($1.00 fixed and $1.20 contingent consideration). The total return for this idea was therefore 86.9%.

Disclosure: the author was long County First Bank (OTCMKTS:CUMD) at the time of publication

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