Territorial Savings Bank ripe for picking

Territorial Savings Bank has an anniversary next month that could lead to a change in Hawaii’s financial landscape.

The state’s fifth-largest bank, which converted from a mutual holding company to a publicly traded corporation on July 13, 2009, will be eligible to be acquired upon reaching the third anniversary of its initial public offering. That’s when a federal moratorium ends preventing the takeover of thrifts that undergo mutual conversions.

And while there hasn’t been a bank merger of any kind in Hawaii since Central Pacific Bank bought City Bank in September 2004, some analysts and portfolio managers say that Territorial could be a potential acquisition target due to its strong deposit growth, residential loan portfolio and pristine credit.

Chicago-based Keeley Asset Management Corp. is Territorial Bancorp Inc.’s largest outside shareholder with a 6.1 percent stake and continues to be bullish on its prospects.

"This is a very clean traditional thrift, and management has stuck to their knitting and really hasn’t deviated," said Keeley portfolio manager Mark Zahorik. "They seem to have very loyal long-term depositors, and that’s something else that makes the institution attractive. I don’t know who a potential suitor necessarily would be, but I do know Territorial would be a very attractive candidate. They have very few problem loans, and they’re among the cleaner institutions you’ll find that are publicly traded."

Zahorik said he anticipates that a takeover price for Territorial’s stock would be about $30 a share.

That would give Territorial shareholders a handsome gain. Territorial’s stock closed Friday up 20 cents at $21.71.

Territorial’s largest shareholder group is its employees via an employee stock ownership plan, or ESOP. The plan holds 8.9 percent of the company, or 977,628 shares.

Allan Kitagawa, chairman, president and CEO of Territorial, is the 10th-largest investor with 2.1 percent, or 232,207 shares, according to the company’s SEC filing. Kitagawa was the third-highest-paid CEO of a publicly traded company in Hawaii last year with a total pay package of $2.3 million.

Zahorik said history shows that the majority of companies that convert from mutual holding companies — those owned by depositors — to a stock form eventually get acquired. He said that over the past 20 years there have been more than 600 mutual savings and loans that have converted to public stock form, and two-thirds of those have been taken over.

"Many of these companies realize it’s difficult to remain independent because banking is a business of scale, and many realize they and their shareholders are better served if they’re absorbed by a bigger institution," said Zahorik. "Many understand they’re too small to shoulder the compliance costs that continue to grow in banking, and they’ll look to a larger company to acquire it at a premium to benefit shareholders."

Territorial declined to comment on whether it has held any discussions with potential suitors.

"We have a policy of not publicly commenting on corporate strategic matters," Territorial spokes­man Walter Ida said last week.

Ida added that Kitagawa was out of state and unavailable for comment.

Banks that convert from a mutual holding company to a publicly traded corporation, as did Territorial, are not allowed to be acquired for at least three years, according to Federal Reserve regulations. That’s because recently converted savings institutions are particularly vulnerable to takeover attempts due to the amount of time it takes to effectively deploy the capital raised in the initial public offering, or IPO. It also takes time for the institution’s management to adjust to being a stock institution and the new pressures that come from being accountable to shareholders and the marketplace.

Territorial’s stock, which was priced at $10 for its IPO, has been gradually edging up since its debut three years ago.

Territorial boosted its dividend this month for the second time in three months and now pays 11 cents a share, which equates to an annualized yield of 2.1 percent. The bank also has implemented three stock repurchase programs with authorization to buy back nearly 1.9 million shares. It had repurchased nearly 1.4 million shares of that allotment as of March 31.

"We’ve been pleased with how management has deployed their excess capital," Zahorik said. "They’ve been buying back stock when it slips below book value, and as the stock starts to trade at a premium to book, they stop pulling on that lever. They’re also raising their cash dividend, which I think makes sense."

Analyst Mike Shafir of New York-based brokerage firm Sterne Agee said in a May 7 research report that Territorial could be worth $28 a share — close to Zahorik’s projection — based on Shafir’s third-quarter earnings estimates.

Territorial, which originates 95 percent of its loans from residential mortgages, as of March 31 had loans receivable of $711.5 million, up 9 percent from $652.5 million a year ago. Impressively, only eight loans — totaling $1.7 million — were delinquent last quarter.

Deposits rose 9.6 percent to $1.2 billion during the same period.

"They would be an attractive franchise," said analyst Jacque Chimera of San Francisco-based investment bank Keefe, Bruyette & Woods. "The company has an attractive deposit network, it’s been generating loan growth and its credit costs are nearly nonexistent, which highlights strong underwriting. They have a very low amount of nonperforming loans. Their credit performance is superior."

The bank’s deposits, loans and credit quality helped it earn $12.8 million in 2011, a 16 percent increase from $11 million a year earlier.

In the first quarter of this year, Territorial’s profits rose 18 percent to $3.5 million from $3 million in the year-earlier period.

Analyst Aaron Deer of San Francisco-based investment bank Sandler O’Neill & Partners LP also sees Territorial as being in play as an acquisition target.

"I don’t know that the bank is looking to sell," Deer said, "but I know management and the board are very prudent and that any decision on that front will carefully consider the interests of all shareholders, customers and employees. This is a very thoughtful group of executives, as evidenced by the bank’s exceptional credit quality and strong operating performance during the Great Recession. I imagine there are many banks that would view Territorial as an attractive target. It is a terrific banking franchise with a history going back over 90 years."

Founded in 1921, Territorial has 27 branches, including 21 on Oahu, three on Maui, two on Hawaii island and one on Kauai. Ida, the bank spokes­man, said Territorial is planning to add an additional branch in Manoa Marketplace on Oahu at an undetermined date.

Roadblocks that could prevent an acquisition of Territorial are the bank’s distance from the mainland, as well as federal and state regulatory concerns if a large Hawaii bank attempts to obtain too large of a deposit market share.

For Hawaii banks, there are limits on what percentage of deposits one institution can have. That number is generally 30 percent, according to Iris Ikeda Cata­lani, commissioner of the state Division of Financial Institutions.

Territorial had 3.8 percent of deposits in the state as of June 30, 2011, according to the latest data available from the Federal Deposit Insurance Corp. First Hawaiian Bank and Bank of Hawaii, with 35.8 percent and 30.9 percent, respectively, seemingly would be precluded from an acquisition due to their already large market saturation, while Central Pacific Bank, with 10.8 percent of deposit market share, is still trying to get back on its feet after a commercial mortgage meltdown. That would leave American Savings Bank, which is owned by Hawaiian Electric Industries Inc., as the most likely suitor among the top four local banks, according to Zahorik and Chimera.

HEI declined to comment on such a prospect.

"As a matter of company policy, we do not comment or speculate on the potential for acquisitions or sales," HEI spokes­woman Carol Imai said.

Zahorik said that since Hawaii is an island state, it would be difficult to identify potential buyers. But small out-of-state banks could use this as a way of having a small starting presence in the islands, he said.

"Rather than start up on their own, they would buy Territorial," Zahorik said.

Deer, the Sandler O’Neill analyst, said it would be challenging for a mainland bank to manage a business from a distance — "but Hawaii is a great market, so I think they would find ways to overcome those challenges," he said.

A takeover of Territorial could result in some layoffs and branch closures if the acquirer has overlapping branches, but that would depend on who was buying the bank, analysts said.

Chimera said she also can see Territorial staying the way it is now.

"The Hawaii banking market is unique, and it’s not going to experience the merger-and-acquisition consolidation the way that we expect in the mainland market," she said. "Therefore, although the Territorial franchise is attractive, I’m less inclined to look at it as a sale candidate as I do its mainland peer banks. There’s a place for them within the marketplace, and they’ve obviously been doing well through the economic cycle given that they’ve had insignificant credit costs and have continued to produce loan growth."

Chimera said if Territorial were to be sold, she would expect it to be to a Hawaii bank rather than a mainland bank.

"If a mainland bank were interested in getting into the Hawaii market, they would want to gather a more meaningful market share," Chimera said.

Still, Chimera said every bank is for sale at the right price.