New York Community Bancorp (NYCB): The Next Domino or a Stalwart?

   (Disclaimer: Excel file attached below the post) 

I have for the most part, steered clear of the macro environment and the general sentiment and prognostication around interest rates, what might or might not the FED do, the fiscal and monetary policies as well as the bank failures, and the reason is two fold; firstly, I am not an economist or a fixed income expert and so my two cents might not prove accretive to the whole conversation, and secondly, there are tons of proclaimed oracles and analysts that have put out a deluge of articles on these subjects and some have proven their credentials while others were not so accurate. But, I am fascinated by the nuances and intricacies of monetary policy and its vast impacts on all facets of life, and so I have tried my utmost best to stay up to date on the developments in the banking system, i.e., the failure of SVB, Signature, and Credit Suisse banks. I have also, for the better half of the last year, kept tabs on the regional banking system and how the current environment, macro and micro, has compelled managements and organizations to reassess their priorities, their risks and their relationships with investors and customers. As such, I have been seeing NYCB circulating financial news- with new $1.05B of equity raised among other reasons- lately and I wanted to put my interests to test and assess whether NYCB will be the next domino to fall in the banking system or if it could prove to be the stalwart that keeps vultures at bay. Here is my analysis of the bank's past performance, its income statement, balance sheet, and also valuation driven by a Dividends Discount Model.   

NYCB

Past Performance

There are multitude of metrics that one can use when assessing the past performance of a company; its share price, ROIC, P/E, EPS growth, P/BV and dividends payout ratio, but I, personally, like to look at a company's share price and how it has weathered its trials and tribulations. The reason I look at the share price is because, I believe, that all other metrics, implicitly or explicitly, show up in the share price, and most important of all, share price signifies investor expectations not only about the company but also the general state of economy and its impacts on the company's future. And so, I will initiate this analysis by looking at NYCB's share price and the difference between the returns of NYCB, its competitors, and S&P. 

Reginal banks have historically been below par when compared to the broader market, as evident from the image above. We can see the volatile nature of the business by the abrupt fluctuations in the share prices of the various regional banks and their subservient performance when compared with S&P. Due to the nature of the business, banks are inherently more prone and easily affected by investor sentiments and the overall performance of the economy. We can see that NYCB, over the course of the last 5 years, has put up significantly lower returns compared to the S&P, and pinpointing the reason(s) for its poor performance are harder said then done, but I can think of some transparent reasons why NYCB, or the regional banks in general, have yielded lower returns. 

One of the obvious reasons is the current interest rate environment and its impacts on the banks and their balance sheets. Without going into too much granularity as to how banks operate, they have assets (cash, loans, interest bearing deposits and other investment securities) and liabilities (deposits, borrowing and other subordinated debentures and notes) and it is almost existential that they are able to match customer demands, in this case their liabilities, with adequate amount of capital. In an environment of low interest rates (prior to COVID), banks have excess capital that they then deploy in forms of loans and securities (typically long-term) and earn interest on their investments, since the interest they earn is low, they endeavor to underwrite as many loans as possible in order to drive their net interest income and margins upwards. From the consumers and customers stand point, individuals and corporations alike, are more inclined and motivated to take out loans due to the low interest rates and the resulting lower cost of capital.

On the other hand, in an era of high interest rates (today and the past year and a half) banks have to compete for deposits not only with other banks but also with other high yielding investments and securities such as the governmental or various municipal offerings. During times of elevated interest rates, customers are inherently attracted towards investments that yield higher returns compared to parking their cash at the bank, and so consequently, they [banks] have lower amounts of deposits to loan out and that goes against the very nature of the banking world. A corollary to this problem is the fact that banks almost always make out loans that are long-term (student loans, mortgages, and various other consumer loans) and their liabilities are almost always short-term; it essentially means that banks, at any given moment, are at risk of not being able to match their liabilities in case of bank runs or other distressed situations. This is an oversimplification of the way banks work and how predisposed they are to the macro environment, but I think that this brief elucidation should suffice as far as our conversation here is concerned.  

Second reason for why regional banks have been sub-par at best is the fact that they are regional and small (with only $100B-$300B in assets in most cases), which means that they are not protected by the motto, "Too big too fail." As a result, investors ask for a premium, and as stated above, it shows up in their stock prices. Third reason that I can think of is the regional banks' portfolio; regional banks are heavily invested in start-ups, real estate, development and construction loans and so they are exposed to more risks compared to the "Too big to fail" banks. With an understanding of NYCB's past performance and a primer  on the banking operations, lets now move onto NYCB's operations and historical numbers. 

Overview

New York Community Bancorp is the parent organization of Flagstar Bank. The company went public way back in 1993 and has been growing through organic and inorganic avenues for the past few decades. As of the end of FY '22, the company had $90B of assets, $69B of loans, deposits of $58.7B, and total stockholders' equity of $8.8B. NYCB has leading positions in several national businesses, including multi-family lending, mortgage originations and servicing, and warehouse lending. The company is the second largest multi-national portfolio lender in the country and leading multi-family portfolio lender in New York City market area, where it operates and specializes in rent regulated, non-luxury apartment buildings. NYCB services its consumers through 395 branches across nine states as well as 24-hour online access to their accounts. Moreover, there are three overarching facets of the markets and the macro environment that NYCB has to cope with and plan for- just like any other bank regardless of their size- and they are the following:

• Competition for deposits
• One of the pillars of the banking industry is the everlasting battle for deposits, and NYCB is no exception to that rule. The company competes, nationally and regionally, with other banks for customer deposits through competitive rates and varying products and services to meet its customers' ever-changing needs and wants. Its ability to attract deposits, as stated above, is a function of short-term interest rates and the rates offered by other players in the market. In addition to offering checking and savings account, retirement accounts, and CDs, the company offers a suite of cash management products for small to mid-size businesses and organizations. Additionally, the market has become increasingly saturated with non-traditional financial technology, FinTech, companies breaking into the industry and gradually snatching market share from traditional regional banks such as NYCB. 
• Competition for commercial and consumer loan servicing
• Along with competing for deposits, the bank has to face stiff competition from institutions such as commercial banks, national mortgage lenders, local savings banks, FinTech companies and credit unions for its commercial and consumer loans and servicing. The competition the bank faces varies depending on the types of loans and geographies; in New York City, where majority of the building collateralizing multi-family loans are located, the bank competes for such loans on the basis of timely service and operations. NYCB's ability to compete for its CRE loans depends on its own offerings as well as what other lenders and competitors are offering. 
• Monetary Policies
• There are entire books and college major and specialties are dedicated to the topics of monetary and fiscal policies, but I will succinctly define the impact of monetary and fiscal policies on banks and lending institutions to better explain my hypothesis and rationale regarding my valuation. Fiscal policy is when the government steps in and initiates programs, such as lowering taxes or increasing other benefits, to fuel growth or the inverse in recessionary and inflationary times; such programs and initiatives can substantially impact a bank's operations. Monetary policy on the other hand, defined at the start of the post, is when the FED pumps cash in or out of the economy through market operations, reserve requirements, federal funds rate, the discount window, and margin requirements. FED's actions, as one can imagine, can severely impact a bank's operations, and going forward, NYCB's growth, just as currently, will be heavily impacted by FED's policies. 

Numbers

Over the course of the last few years, NYCB has fared exceptionally well due to the company's diverse business model and by focusing on its core competencies; multi-family/commercial real estate lending, retail banking, commercial lending, and residential mortgage origination and servicing. In addition to keeping its head over the water, the company in March '23, through its bank subsidiary, Flagstar Bank, N.A., announced that it would be acquiring certain assets and assuming certain liabilities of Signature Bank from FDIC. The purchase included approximately $38B of assets, including $25B in cash and $13B in mostly commercial loans. Additionally, the company assumed $34B of deposits, its wealth management and broker-dealer business as well as all of Signature's 40 locations. Additional assets and liabilities from the transaction further solidify NYCB's market position within the regional banking industry, and it posits to show the confidence the management has in its balance sheet and the company's future ability to generate healthy profits. I have used the FY '22 10K (the company filed an extension for its FY '23 10K and will be publishing it in the near future) for this analysis and, therefore, does not include this particular transaction which I think is serendipitous in some sense because I would like to know the financial condition of the company based on its own merits and not artificial flavors generated from inorganic activities; speaking of financial condition, below is a snapshot of the company's historical income statement.

The company reported NII of $1.1B, $1.3B, and $1.4B for fiscal years '20, '21, and '23 respectively. Company reported a lower NII growth of 8% YOY compared to a 17% for FY '21, and that I believe is primarily due to higher costs of liabilities and lower generation of assets and as a result lower interest income. In line with the general sentiment revolving the macro economy, the company put aside a significantly higher amount for its provisions for credit losses; $133M in FY '22 compared to only $3M for FY '21. Another observation here would be that the company's operating expenses (compensation and benefits, occupancy and equipment, and general and administrative) have stayed decently flat for the past three years with fluctuating non-interest expenses for the three observed years. NYCB reported a NI of $617M (a 9% growth YOY) in FY '22 compared to the $563M NI reported for FY '21. Below is a snapshot of company's EPS and dividends policy over the course of the past three years. 

With an understanding of the company's income statement and its EPS and dividends policy, I think the next intelligible step would be to look at its balance sheet and various assets and liabilities the company holds. 

The company reported total loans and leases of $68.6 (including the deduction for allowances for credit losses) for FY '22, an increase from the reported amount of $45.5B for FY '21. Including all of the other assets, the company reported total assets of $90B for FY '22. Additionally, the company reported total deposits of $58B in FY '22 compared to $35B in FY '21, a growth of 68% YOY. As you can see, NYCB also has wholesale borrowings and other subordinated debentures and notes, giving the company total liabilities of $81B for FY '22. On the equity side, the company reported shareholders' equity of $9.8B for FY '22; one thing to note here is that the reported cash and equity balance are higher in my screenshots than the latest FY '22 10k, and that is because I have reflected the latest equity raise of $1.05B. In addition to the typical income statement and the balance sheet, there is another equivalently important factor to analyze and that is the bank's ability to meet its capital requirements mandated by federal law. Here is NYCB's capital position over the last few years. 

As you can see, NYCB has consistently been above its federally regulated and mandated requirements with reporting higher Tier 1, Total, and Leverage Capital ratios for the past four years. I have not included CET1 ratio in this analysis, only because I didn't see the addition being accretive to the whole point which is that NYCB has had no issues in the past maintaining an adequate amount of capital based on its liabilities and the requirements set by the government.

Valuation 

When dealing with companies that distribute much of the value to shareholders in the form of dividends, it is almost fretful and futile to try and value them using DCF or other valuation methods. The age old Dividends Discount Model (hence referred to as DDM) is the ideal avenue to take, and so I have tried to put my understanding and valuation of NYCB in the form of a DDM; I could have also used the Residual Income Model as well but I doubt the results would be any different. Before we move onto my valuation of the company, I think it is prudent to briefly discuss some of the drivers and factors that affect a bank's valuation. 

Assumptions

• Monetary Policy
• Monetary policy, as discussed above, is one of the major factors to consider when trying to assess a bank's operations and possible future. I am not a macro strategist or an economist and so my understanding is limited in terms of understanding the nuances of interest rates and the general state of the economy, but I believe that I possess enough mental wherewithal to predict as to what I think might happen to interest rates and how it will impact NYCB's operations. Going forward for the next five years, I believe FED will be able to combat inflation in the fashion that they desire and that should kick start the economy again. I believe that rates will gradually start to decrease by the end of this year simultaneously because of FED's policies as well as consumer expectations; this gradual reduction in interest rates, I expect, will be accompanied by equivalent increase in deposits and, consequently, the loans.  
• Net Interest Income and NI Growth
• The Company reported, for FY '22, interest earning asset yield, interest bearing liability cost, and spread of 3.53%, 1.35%, and 2.18%, respectively. Going forward, I believe as the rates begin to reduce, company's interest earning asset yield should begin to decrease over the next five years; also, I believe, company's reported interest bearing liabilities cost should also decrease over the course of the projected years driven by the general reduction in interest rates and better and positive economic outlook. I am maintaining company's spread flat at 2.18% for the next 5 years because the spread is very much driven by what the management desires to achieve and as you can expect, I do not have access to the management or their future expectations, that right, unfortunately, is reserved for the analysts that cover the company. Given my assumptions about the asset yield, the cost, and the spread, here is what I think the NII and margins might look like in the future. 

• Given my assumptions about the interest income, interest expense, and other non-interest income and expenses, as well as the adequate reflection of the latest equity raise, following is what I expect should happen to NYCB's NI to common stockholders and EPS.

• We can clearly see the impact of the latest equity raise in the going forward basic and diluted earnings per share. I expect, based on the issuance of new dilutive securities, the diluted EPS to be lower for much of the projection period, and as the company grows its operations and its NI, both basic and diluted EPS should start to go uphill again. 

• Dividends Growth and Payout Ratio
• As the company grows and efficiently navigates the macro environment, I believe it will have more than enough excess capital to continue paying dividends for the next five years. I expect the company's payout ratio to decrease from 51% in FY '23 to 30% in FY '27, and as the company's NI, equity, and risk weighted assets grow in the years after FY '27, the payout ratio should reflect the returns in the form of dividends.
• Deposits
• The company has historically reported loans at around 130% of total deposits, and I believe that overtime this relationship should be one for one by the end of FY '27. Using the historical relationship between loans and deposits, here is what I think loans and deposits could look like in the future. 

• Allowances for Credit Losses
• The company reported allowances for credit losses of $393M for FY '22, an increase of 97.5% YOY, and I believe that was due to the turmoil in the banking industry as well as the general state of economy, and going forward, as the FED begins to lower interest rates and as the general position of the economy gets better, the balance for the company's allowances for credit losses should gradually increase over the following five years in line with the company's loans' growth. Here is what that might look like:

• Capital Requirements
• As mentioned before, NYCB has a splendid track record when it comes to meeting the minimum capital requirements set by the government, and in the future, I expect that trend to hold. I expect a mild growth in risk weighted assets as well as Tier 1 and Total capital ratios. I believe the bank will be well capitalized for the projected period as displayed by my model:

• Latest Equity Raise
• As of the timing of this post, NYCB's announced that it completed a previously announced transaction resulting in individual investments aggregating to approximately $1.05B. As a result of this transaction, the company will issue roughly 525M new shares if all of the options and warrants are exercised. I have accounted for this transaction in my valuation as well where I have added the total dilutive impact of 525M shares in the share count as well as adding $1.05B to the company's equity and cash account on its balance sheet. 
• Cost of Equity
• As of the writing of this post, risk free rate per WSJ is 4.10%, NYCB's beta is 0.95, and equity risk premium is 4.18%, giving us a cost of equity of 5%. Additionally, given the bank's portfolio of loans and its exposure to the whims of the real estate industry as well as the general consumer and market sentiment and operations of banks, I have added a 5% premium to the cost of equity to reflect all of the additional risks for investing in banks these days. 
• Risks and future
• The possibility is not loss on me that you are here wondering if I believe NYCB could default similar to SVB, Signature and Credit Suisse, and the short answer is that I don't think it will fail. For starters, I don't believe that there will be bank runs in the future due to the emotional stage of consumers when it comes to the banking industry. Other banks failed because consumers, at the time, were worried about multiple issues such as the inflation, recession, and unemployment and so they rushed to retrieve their funds for safekeeping or kosher investments, and I simply don't think that that is the case now. I believe that NYCB does have duration mismatch in the sense that most of their loans are long-term and deposits are often short-term so that risk is inherent and comes with the territory; what matters is how the management handles the peaks and troughs and I believe NYCB's management has more than delivered. Moreover, the latest transaction of equity will most certainly go a long way in assuaging bank's consumers' and stakeholders' concerns about the safety of their money as well as future profitability.  

With all of my above mentioned assumptions and thoughts, here is my valuation of NYCB.

In case the image above is not legible, I get a share price of $6.37, the stock at the time of this analysis, was trading at $3.25. I believe that given my projections about all of the variables, NYCB is trading at a discount. Of course, one can never be entirely certain when analyzing and valuing companies and so down below I look at the range of share prices given changes in certain drivers. 

Sensitivity and Statistical Analysis

The image above shows the range of NYCB's price per share given changes in the long-term growth rate and the cost of equity. I specifically wanted to see the impact of cost of equity because as mentioned in my assumptions, I added a premium of 5%, and I wanted to see what the price might be without the premium. As you can see, if I don't attach a 5% premium, I get a share price of $16.76 as opposed to $6.37 generated by my model. Given the vast range of share prices and where they lie on the spectrum, I believe that I am content with $6.37 per share. Below is a look at the relationship between cost of equity and final year dividends and its impact on the share price. 

As is clearly evident from the image, the amount of dividends the company pays and the its cost of equity have a significant impact on its valuation. For instance, if I keep the dividends paid in the final year the same, and reduce my cost of equity to 9.07%, I get a valuation of $12.99 per share, almost 4x its current trading price. As a result, I believe that the model generated price of $6.37 is well within reason and truly reflects NYCB's intrinsic value. 

Conclusion

As I mention in all of my valuation posts, valuation is very much a singular view, and no two valuations will ever be the same, unless done by the same individual. Based on my assumptions, I believe that the stock is undervalued, and if you were to jump in, you might not agree with my numbers and come up with an entirely different share price. As always, I have attached the excel file and the 10K for your review and dissection. 

Links

NYCB Valuation- 03/14/2024

2022 10K