KeyCorp Falls After Ohio Bank Pays Premium for First Niagara

  • Shares tumble 7.2% in New York, the most since August 2011
  • KeyCorp paying too much for `mediocre franchise,' analyst says

KeyCorp fell the most in more than four years after some analysts said the lender overpaid for First Niagara Financial Group Inc., a regional bank that’s grappling with rising costs and a sluggish stock.

KeyCorp tumbled 7.2 percent to $12.42 in New York, the most since August 2011 and the worst performance in the KBW Bank Index. Buffalo, New York-based First Niagara slipped 3 cents to $10.35.

The lender on Friday agreed to pay $4.1 billion for First Niagara, which had a market value of about $3.6 billion on Sept. 30. The deal allows Cleveland-based KeyCorp to expand in the U.S. Northeast and may add $300 million in annual revenue and greater efficiencies, the bank said in a conference call. While the cost savings and revenue growth opportunities make sense, KeyCorp paid too much in a deal that could take as long as 10 years to pay off, according to analysts including Portales Partners’s Jennifer Thompson.

‘Mediocre Franchise’

“KeyCorp is paying a lot of money for a mediocre franchise in a mediocre market," Thompson said in an interview. “It’s a big deal, it creates execution risk, it creates regulatory uncertainty and the financials are a question mark."

Most bank stocks decline when a deal is announced because it requires investors to assess new risks, said KeyCorp Chief Executive Officer Beth Mooney. She said she’s confident investors will eventually see how acquiring First Niagara will add value.

“We were very clear about why we believe this builds a high-performing regional bank," Mooney said in a phone interview. “There will be work on our part to bring the investment community along in that realization."

The acquisition will boost KeyCorp’s earnings per share by 5 percent in 2018 and cut expenses by $400 million, the bank said. KeyCorp and First Niagara share overlapping businesses including commercial real estate and payments, giving the combined bank an opportunity to bolster revenue. Regional banks have been struggling with tepid revenue growth as record low interest rates squeeze lending margins.

Plan B

“Banks need a ‘Plan B’ in an industry with ongoing revenue headwinds and lower-for-longer rates," Mike Mayo, a CLSA analyst, said in a note to clients. “The deal gives Key an extra earnings lever."

First Niagara, with $39 billion in assets and $29 billion in deposits, was the worst-performer in the KBW index last year before it was removed from the 24-company group. The lender has dealt with rising costs, including an increase in reserves to address a “process issue” that affected some deposit accounts, and has said that expenses would climb as it spends to improve technology systems.

KeyCorp estimates it will take six to 10 years to restore the tangible book value that the deal will erase. Tangible book value is a measure of what a company would be worth if liquidated.

“The earn-back period looks quite long," Ken Usdin, a Jefferies Group analyst, said in a note to clients. “The expansion into similar, contiguous markets makes sense, but the size of the deal is surprising."

Stock, Cash

With about $135 billion of assets, the combined bank would be the 13th-largest commercial lender in the U.S., according to a statement. KeyCorp currently has about 1,000 branches in 12 states, its website shows.

First Niagara shareholders will receive 0.68 KeyCorp shares and $2.30 in cash for each First Niagara share, according to the statement. The per-share consideration is valued at $11.40 based on KeyCorp’s closing price Thursday.

KeyCorp should fund the deal with sales of assets in the western U.S. rather than stock and cash, CLSA’s Mayo said.

Regional bank takeovers are picking up after a slowdown in deals following the financial crisis. Lenders including BB&T Corp. and CIT Group Inc. have scooped up smaller firms to expand business lines and geographic markets. New York Community Bancorp on Thursday agreed to purchase Astoria Financial Corp. in a deal valued at about $2 billion.

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