Is It Time to Retire Popular M&A Metrics?
Last Monday, M&T Bank Corp. announced that it plans to buy People’s United Financial in Bridgeport, Connecticut. The Buffalo, New York-based bank touted the many attractive qualities of its all-stock, $7.6 billion deal. The combined company can use its $200 billion in assets and 1,135 branches to better compete across the Northeast and Mid-Atlantic. Plus, M&T expects 10% to 12% earnings per share accretion by 2023. The deal will be accretive immediately to tangible book value per share.
Markets reacted positively to the initial news. People’s United’s stock climbed 22% as of Wednesday's close compared to the previous Friday’s close. M&T’s stock rose 8%.
You often see tangible book value dilution pop up in announcements about a deal like this one. It’s a metric that seems to have outlived the Great Recession.
After the financial crisis of 2008-09, a lot of banks weren’t making money at all. Trying to assess a bank acquisition based on the traditional earnings metrics seemed futile at that time. So, the industry turned to metrics such as tangible book value dilution and earn-back periods. Tangible book value is the value of the company stripped of intangibles, a liquidation value if you will. Since an acquisition sometimes dilutes that value, often because the buyer pays a premium for the seller, the earn-back period is the time it takes to earn back the bank’s tangible book value through earnings.
Investors and analysts still pressure banks to show how quickly they earn back dilution, and that’s a shame, says Rick Childs, a partner at Crowe LLP and an expert in M&A accounting. “It’s an interesting number, but it doesn’t tell us much about the deal,’’ he says.
What is wrong with this metric? For one, the assumptions baked into the earn-back period aren’t usually spelled out. Dilution also doesn’t get to the question of whether a bank has overpaid for a seller.
Childs favors a more complete and accurate view of a deal’s value, which can be found by looking at the deal’s long-term effect on earnings per share and the speed, thoroughness and effectiveness of integration plans. Investors should consider cost savings and revenue synergies as well as earnings multiples. After a few years, investors and analysts should go back and see how the bank performed.
Childs knows a bank that has pledged never to do a deal with more than a four-year earn-back period. Perhaps it’s time to let those promises go.
• Naomi Snyder, editor of Bank Director