November 24, 2021

Breakingviews: German $2 bln buyout flags bank investor myopia

by Breakingviews.

Private equity groups pride themselves on spotting opportunities neglected by public-market investors. Advent International and Centerbridge Partners’ 1.7 billion euro offer for Germany’s Aareal Bank may be a case in point. The bidders could generate a fat return by retaining dividends to fund growth. There’s a lesson for other bank shareholders.

Aareal’s board and management team, led by Chief Executive Jochen Kloesges, on Tuesday recommended the 29 euro per-share cash offer, which is 23% above the property lender’s undisturbed closing price. The buyout barons want to keep Kloesges in place and give him capital to grow Aareal’s loan book and real estate IT division Aareon, as opposed to the current plan, which will see up to 80% of earnings paid as dividends.

Assume the new owners use that money instead to grow the loan book to 40 billion euros over five years from 29 billion euros this year. Also assume they earn a 2.2% net interest margin and boost revenue in the IT business at a 15% compound annual rate. Revenue in 2026 would then be 1.4 billion euros. If costs fall to 55% of income, from the mid-60s now, and bad debts go back to pre-pandemic levels, 2026 earnings would be 320 million euros, over double next year’s 127 million euros, as forecast by Refinitiv.

That should lead to a handsome payday. Value Aareal on a 12 times forward price earnings multiple, its five-year median according to Refinitiv data, and it could be worth 3.8 billion euros, earning the buyers a 17% internal rate of return. Advent and Centerbridge could probably raise that figure by nurturing and then selling the IT business: Citigroup reckons it that alone could be worth 2 billion euros by 2023.

Aareal shareholders may conclude the buyout barons are underpaying, perhaps explaining why the shares were trading slightly above the offer price on Tuesday morning. The broader lesson is that investors in other banks should push management to grow the business, rather than just focus on the dividends they receive today. That’s particularly true in an environment of rising interest rates. Euro zone banks on average trade at a 5.1% yield based on 2022 dividends, some 2 percentage points above the Euro STOXX 50 Index average, Refinitiv data shows. Advent and Centerbridge may be showing that spare capital can be put to a better use.

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