The Guest Blog

Farrell: A Good Balance Sheet Sure Helps

The bad news is banks are still failing. The "good" news is that there are those banks with the balance sheet strength such they can take over the failures on some pretty good terms. Over the weekend two Florida banks, Orion Bank in Naples, and Century Bank in Sarasota failed and were acquired by Iberia Bank (IBKC: buy rated, target price $57.50). Gary Tenner of Soleil/Tenner Research has followed IBKC for some time and was quick to comment on the deal.

Iberia acquires $3.1 billion of total assets for a discount of $420 million so the balance sheet grows by $2.7 billion (prior to any additional valuations adjustments that might be taken by IBKC), which would be an addition of some 42% to assets. Given the size of the transaction, Gary has raised his estimate for 2010 to $3.18 from his previous $2.25. His target price goes to $57.50 (or 1.75 times year out book value) which would still be a decent gain despite the stock being up strongly on the news.

One of the attractions of the deal is the loss sharing agreement the bank has with the Federal Deposit Insurance Corporation - FDIC. The terms the company announced are slightly different for each bank. For the Orion transaction, the FDIC will take 80% of any losses on the first $550 million in losses and 95% on any loss above that. For Century, the FDIC will take 80% of the first $285 million in losses, and 95% above that. So if there were to be $835 million in initial losses, IBKC would lose $167 million. If all $2.5 billion in loans that are part of the transaction were to be worth zero, IBKC would lose a total of $250 million. Tangible capital now is $592 million. With the stock of IBKC up 17% at the time of this writing it is probably fair to say the market likes the deal and the loss sharing arrangement.

Iberia also announced results for the month of October. The company indicated it earned $.30 for the month, with a NIM (net interest margin) of 3.36%, unchanged NPA's (non performing assets) and NCO's (net charge-offs) of .14%. On a pro forma basis, Gary calculates the banks TCE/TA (tangible capital equity to tangible assets) will be 6.77% by 12/31/09. Good numbers all.

There was more than bank news on Monday as retail sales for the month of October got the fourth quarter off to a fairly good start. The 1.4% increase follows a downward revision of last month's number to -2.3%. The rebound in October was due to a snap back in auto sales just as the prior months fall was due to distortion caused by the cash for clunkers program. Ex-ing autos and gas out, retail sales rose .3%. The last two months saw gains using that metric of +.4% (September) and +.3% (August). It appears that sales have stabilized after the shock of the last two years. My pal Brian Wesbury of FTAdvisors noted that a sub index of employment rose for the second month in a row.

The NY State Empire manufacturing index fell from last months abnormal (and five year high) number of 34.6 to 23.5. While less than expected (consensus was for 30 or so), it is still a positive number and could well correct the oddity of last months surprise. It does indicate that manufacturing activity continued to expand during the month.

Total business inventories fell -.4% in September, better than expectations which was for a decline of -.7%. Inventories had fallen -1.6% in August. Inventories did better than hoped for most probably due to auto dealers replenishing stocks after the semi-confusion of the clunkers program. I would love to take a better inventory report as the start of something, but this does not, at this time, give us any real insight into the timing of the hoped for inventory restocking.

Lots of news coming at us on Tuesday. Producer prices are expected to rise .6% (with the "core" up .1%). Industrial production should be up .9% say the guys who think about such things, with capacity utilization rising a bit to 71.2% from 70.5% last month. The National Association of Home Builders index will hopefully read "20" compared to 19 in September and 18 in October. And Jeff Stein of Soleil/Stein Research tells us TJX (buy rated) will report earnings for their third quarter. Jeff is looking for $.78.

Vincent Farrell, Jr. is chief investment officer at Soleil Securities Group and a regular contributor to CNBC. 

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