A Laurentian Bank branch in Montreal on June 21, 2016.Paul Chiasson/The Canadian Press
When 130-branch bank HSBC Canada went up on the auction block last fall, bidders filled the room.
Well, they filled the virtual data room, the place where the bank’s London-based parent gave potential buyers access to confidential information. All six major domestic banks made preliminary offers for a lender with wealthy clients across the country, and a strong commercial lending team. The largest in the land, Royal Bank of Canada, eventually won the prize by paying $13.5-billion, a heady 2.4 times HSBC Canada’s book value.
Bidding will be far less heated as Laurentian Bank of Canada LB-T and its 57 branches come on the block. In fact, there are lots of reasons to believe Laurentian’s board could conclude the strategic review announced on Tuesday by opting for the status quo – shutting down the sales process and telling chief executive officer Rania Llewellyn and her team to continue the overhaul they launched two years ago.
The reason Montreal-based Laurentian is considering a sale is the reason potential buyers will make low-ball offers: The bank is struggling to improve profitability, lacks scale in retail banking and relies on one U.S. unit – asset-backed lender Northpoint Commercial Finance – for a significant chunk of its income. Northpoint’s business includes lending to buyers of Jet Skis, ATVs and motorbikes, clients whose disposable income drops when the economy cools and interest rates rise.
“The strategic rationale for acquiring Laurentian is not very strong,” analyst Meny Grauman at Bank of Nova Scotia said in a report. In a nod to Laurentian’s deep roots in Quebec, home to roughly a third of customers, he said: “Any deal for the bank must contend with significant political and retention risks given the regional dynamics of the country.”
The financial numbers that worked in HSBC’s favour when it was for sale work against Laurentian Bank. The standard measure of a bank’s performance is its return on equity, or ROE. HSBC Canada, a relatively profitable platform, had a 15-per-cent ROE last year. Laurentian posted a 9.3-per-cent ROE.
When this auction concludes, some analysts predict Laurentian’s board will face the unattractive prospect of telling shareholders to sell their bank for less than its book value, and a third of the valuation that HSBC Canada commanded. In a report, analyst Mike Rizvanovic at Keefe, Bruyette & Woods said the bank will only fetch about 0.75 times its book value, or roughly $2-billion, “which we believe is reasonable given Laurentian’s ROE.”
Telling investors to part with a business for less than it is worth is a tough recommendation for any director to make. In Quebec circles, banking executives say Ms. Llewellyn is already lobbying the board to stay the course, rather than hand the bank to the highest bidder.
There’s also a wrinkle in Canada’s regulation of banks that makes buying Laurentian an expensive proposition. The country’s six largest banks are considered systemically important and need to set aside more capital – at least 10.5 per cent of assets – than Laurentian, the ninth-largest lender. At the end of last year, Laurentian’s capital reserve was 9.1 per cent of its assets.
If any of the big six banks acquire Laurentian, they will have to increase their capital reserves by roughly $800-million to stay onside with regulators. Only Toronto-Dominion Bank currently sports the balance sheet strength to acquire the Montreal bank without issuing new equity.
Banking businesses rarely come up for sale in Canada, so every major lender will kick tires at Laurentian. The potential cost-cutting that comes with integrating the bank’s 3,100 employees into a large platform are compelling.
Scotiabank, Bank of Montreal or TD Bank could cut Laurentian’s expenses by up to 50 per cent, which would boost their annual earnings per share by about 4.5 per cent, according to analyst Paul Holden at CIBC Capital Markets. (Mr. Holden doesn’t cover his own employer, but CIBC would enjoy the dynamics.) Those sort of savings, and profit increases, ensure Laurentian’s strategic review will include reviewing outside offers for the bank.
Laurentian, however, is no HSBC Canada. It’s a regional player with significant challenges. The frenzied action seen last fall, when the last bank went on the block, isn’t going to be replicated this summer.