Eagle Financial Services, Inc (EFSI), headquartered in Berryville, VA , is a bank holding company for the Bank of Clarke County. Bank of Clarke County currently operates 12 branch offices in Northern Virginia (west of Washington DC) and its largest market is Winchester, a city of ~28,000 residents in the Shenandoah Valley.
The weakness in bank stocks and the broader market has EFSI shares down ~20% since its 2018 highs. The current valuation on shares of EFSI (12x P/E and 125% P/TBV) provides a good entry point to start accumulating a position in an attractive banking franchise.
EFSI has proven its mettle over the years. Bank of Clarke County has been in business since 1881(!). EFSI managed through the previous financial crisis without printing a full year net loss. The crisis and credit overhang hit bank profitability the hardest in FY 2010, when EFSI reported $1.12 EPS, 6.7% ROE, and 3.34% NPAs (its highest level of nonperforming assets). Since 2012, EFSI has been firing on all cylinders with full-year ROAs above 1% and ROEs ranging from 8-11%. As positioned today, 1%+ ROA and 10%+ ROE profile is a reasonable forecast for returns during expansionary periods.
Primary drivers setting up EFSI shareholders for continued investment performance over the near- and longer-term:
- Compounding Earnings: Under the current regulatory environment, ROE should continue to compound at a 10%+ rate and provide attractive growth and investment returns to shareholders. Bank of Clarke County is well established in its banking markets (very attractive deposit/funding franchise) and is positioned to deliver continued returns on equity.
- Dividend Income: EFSI pays a current dividend yield of ~3.14% and the current payout ratio is a manageable 39%.
- Potential M&A Upside: from an acquirer’s perspective, EFSI checks off just about every box on a Bank M&A wish list:
- Market Geography: Bank of Clarke County is a well-established deposit franchise in the Shenandoah Valley area of Northern Virginia. There are several in-market and adjacent-market competitors that would take a long look at EFSI.
- Deposit Funding: Just like Peoples Bancorp of NC (PEBK), EFSI’s deposit position is as good as it gets in 2018. Nearly 37% of its deposits are noninterest-bearing, which is great, and the cost of its interest-bearing deposits is an attractive 47bps. This is a valuable deposit franchise. With a 0.30% total cost of funds: 0.30% and a ~85% loan/deposit ratio, a potential acquirer can forecast another $100 million in loan growth (agnostic to market geography) with a funding cost of 30bps.
- Capital & Equity Positions: simply put, EFSI has excess Capital and Equity on its balance sheet, which is a lever an acquirer can pull to drive incremental earnings in its M&A model.
- Asset Quality: the credit review and discount applied in an M&A purchase agreement can be tricky when “rural” banks are involved. EFSI has ~90bps of nonperforming loans as of 9/30/2018, which is a little high for my taste, but I can get behind a franchise with a proven credit underwriting track record: NPLs and Charge-offs never exceeded 5% and 1.5%, respectively, during the financial crisis. I’m not overly concerned about credit issues for potential buyers.
Some concerns that could pressure earnings/profitability/growth to keep an eye on:
- Economic Cycle
- Hard to forecast where we are here, but all banks and shareholders, no matter the quality of management, bear the risk of a downturn in the local and national economy.
- Rural Geography
- Always a wild card
Bank Description & Geography
Bank of Clarke County currently operates 12 banking offices, mainly in the Shenandoah Valley area of Northern Virginia, and 1 loan production facility near its headquarters in Berryville, VA.
- James Wilkins, Jr. (age 72, Board member) – 8.0%
- Directors / Named Executives, as group – 22.6%
- Banc Funds – 2.0%
Prospective Buyers (active market a lot of potential buyers)
- First Citizens ($36B Assets / FCNCA)
- United Bankshares ($19B / UBSI)
- Union Bankshares Corp ($16B / UBSH)
- Sandy Spring Bancorp ($8.1B / SASR)
- Eagle Bancorp ($7.9B / EGBN)
- City Holding ($4.4B / CHCO)
- Summit Financial Group ($2.1B / SMMF)
- FVCBankcorp ($1.3B / FVCB)