On the surface, it would be very easy to compare Banc of California's (BANC) year in 2020 to any other bank's. Earnings declined significantly as the bank dealt with higher credit costs from the coronavirus pandemic. But when you dig a little deeper, it's easy to see that 2020 proved to be incredibly productive for Banc of California. The bank accelerated its efforts on remixing its balance sheet, which has now positioned the bank to be much more consistent and profitable long-term.
Remixing the balance sheet
Banc of California is a roughly $7.9 billion asset bank based in Southern California, with a footprint that extends from Santa Barbara to San Diego.
Just a few years ago, Banc of California looked like a much different bank. It relied more heavily on higher-cost funding sources such as certificates of deposits (CDs), and residential and multifamily lending that didn't generate good low-cost funding sources for the bank. In 2019, the bank embarked in a new strategic direction by pledging to remix its funding base and focus on loans that created more holistic banking relationships.
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In 2020, as the bank made progress on its goals, the massive amount of liquidity that entered the banking system helped Banc of California accelerate its strategy. The bank grew non-interest-bearing deposits, those which the bank doesn't have to pay anything out on, by more than $470 million in 2020. Non-interest-bearing deposits now make up more than 25% of the bank's total deposits. Banc of California also significantly grew interest-bearing checking accounts, another low-cost source of deposits, while taking advantage of the low-rate environment to reduce its total borrowings by $572 million and its higher-cost certificates of deposits by roughly $448 million.
Expanding margin
The bank has also done a good job of changing the composition of its loan book. Commercial and industrial loans, which typically come with better deposit relationships, now make up more than 35% of the total loan portfolio, up about 7% from the end of 2019. The percentage of multifamily loans in the book has come down and the residential mortgage portfolio continues to run down because Banc of California no longer originates these loans.
The bank's efforts on both the deposit and lending sides have helped Banc of California expand its net interest margin (NIM), the difference between what the bank makes on interest-earning assets such as loans and what it pays out on interest-bearing liabilities such as deposits. The NIM grew from 3.04% at the end of 2019 to 3.38% at the end of 2020. That's a great accomplishment in 2020 after the Federal Reserve dropped its benchmark federal funds rate to zero, which as a result cuts the interest rate on many bank loans. Banc of California's hard work paid off in the fourth quarter of 2020, with the bank generating a profit of $21.7 million, not too far below the bank's overall earnings in all of 2019.
But even better than the margin expansion is that by remixing its balance sheet, Banc of California is much better positioned for when the Fed one day raises rates. Because more of its deposits are now low-cost and come from better banking relationships, the bank will not have to worry as much about losing them when rates rise, or having to pay a higher interest rate to retain them.
Good prospects for 2021
Despite all the work the bank has done in 2020, there are more levers the bank can pull in 2021 to keep the momentum going.
CFO Lynn Hopkins said on the bank's recent earnings call that she believes the bank will continue to reduce the bank's cost of funds as more CDs and borrowings mature. That, coupled with some modest loan growth, is likely to lead to margin expansion again this year, she said. This is once again great, considering the bank grew its margin as interest rates declined significantly in 2020.
Additionally, the potential for another big stimulus bill could help the bank continue to remix its funding. Stimulus initiatives such as personal checks and the Paycheck Protection Program have led to more liquidity flowing into the banking system, which may help Banc of California further replace its high-cost funding sources with better low-cost deposits.
There are other tailwinds for the bank as well. Banc of California in 2016 entered into a $100 million, 15-year naming rights deal for the soccer stadium of the Los Angeles Football Club. In 2020, the bank agreed to pay a roughly $20 million fee to exit the deal, which will save the bank from making payments on it going forward and reduce annual expenses. The bank is also preparing to potentially redeem preferred stock later this year.
Room to grow
Banc of California has been able to transform its balance sheet over a very quick time period, giving me confidence in management's ability to execute. Some of the bank's progress is likely already priced into the stock price because the bank now trades as high as it has since late 2018. Recently trading a little over $19 per share, the bank currently trades at 142% of tangible book value. That's a decent valuation in the current banking environment, but also presents plenty of room to grow, especially if the bank can build on its success from the fourth quarter of 2020 and generate consistent, risk-adjusted returns for investors. The bank is thinly traded and therefore can be volatile in the short term, so be sure to place a limit order when buying this stock.
