Bulking up
Shares in regional lender Bank of Queensland have rallied today, and after the regional lender has confirmed it is buying ME Bank for $1.325 billion. The company will fund the deal via a $1.35 billion equity raising with a 1 for 3.34 accelerated pro-rata non-renounceable entitlement offer to raise $1.0 billion and an underwritten institutional placement will raise $350 million. The offer price will be $7.35 per share. representing a 9.3% discount to the theoretical ex-rights price of $8.11 and a 12.6% discount to BOQ’s closing price of $8.41 on 18th February 2021, the latest trading day prior to the announcement.
Management rightly described the deal which will create Australia’s sixth largest bank as a “transformative acquisition” and we believe it has much merit. The transaction will deliver material scale and broadly double the retail bank, while providing geographic diversification (away from Queensland – which will become 31% of the pie versus 42% currently).
Source: Investor Presentation
The injection of business customers will make the business/retail mix much more balanced and around 46/54. Pre-tax synergy benefits are estimated at between $70 million to $80 million a year (around 75% of which should be achieved within 2 years), making the deal low double-digit to mid-teens cash earnings per share accretive.
Source: Investor Presentation
And CEO George Frasiz will not be over-awed by the task at hand, having implemented successful multi-brand strategies at Westpac. He believes he can take out around 30% of ME Bank’s cost base, which will add to the earnings tailwinds that are already coming through.
Bank of Queensland has updated that it is on track for 1H21 statutory net profit growth of 60% to 65%, 1H21 cash net profit growth of 8-10% and the first-half net interest margin is expected to be about 3 basis points higher than the second half of 2020. The level of ‘problem’ loans also continues to decline sharply, and is back at low levels (less than 1% of the book at 15th February).
Source: Investor Presentation
The Big Four now look set to have some slightly stiffer competition. The ACCC has reportedly already given its blessing to the union of Australia’s 9th and 12th largest lenders. The target has a loan book in the region of $25 billion, and this is a clear stated intent from BOQ as it looks to make inroads into the dominance of the Big Four.
From our perspective the multiple being paid is reasonable with the consideration equivalent to just 8 times ME Bank’s FY20 cash earnings after tax, and including the full run rate synergies. The transaction will be accretive to earnings and return on equity, while the balance sheet of the enlarged entity will remain robust – pro-forma common equity tier 1 will be around 9.8%.
The transaction provides increased diversity (and therefore reduces risk) both geographically, and by business lines. The deal will also provide greater leverage to the ‘V’ shaped economic recovery which is already underway in Australia, and further strength in the housing market. This is also while tailwinds continue to come through to the sector as net margin pressures alleviate with a rising yield curve.
We recommend Members take up their entitlements. Investors should however read the accompany documents with the placement offer. The closing date for the retail entitlement offer is Wednesday 10th March, 5pm Sydney time.
Bank of Queensland remains a buy for Members without exposure, and the entitlement offer record date closes off tomorrow, 7pm Sydney time.
Disclosure: Interests associated with Fat Prophets declare a holding in Bank of Queensland.
