How (and why) to launch an IPO

Is your community bank ready to be traded on the Nasdaq? Here are the stories and words of wisdom from community banks who’ve made the leap from private to public.

By Kelly Pike

When Royal Business Bank and its parent, RBB Bancorp, considered going public early in 2016, they quickly ruled out the idea. The market wasn’t right for them.

One year later, it was a different story. The $1.7 billion-asset Los Angeles bank went public in July 2017 under the stock symbol RBB, raising $86 million. Offered at $23 per share, as of June 1 it was trading at nearly $31.

“The economic environment became such that it was advantageous for us to go public,” says David R. Morris, executive vice president and chief financial officer.

Royal Business Bank is not alone. Despite industry consolidation, the number of community bank initial public offerings (IPOs) has remained steady since 2015, with six or seven IPOs per year, according to Joe Brantuk, vice president of listings at Nasdaq. This year, Nasdaq expects that figure to jump to 10, including two already-completed offerings and eight in the pipeline.

There are several reasons for the increase. Rate hikes and tax cuts have made bank stocks more attractive, and the regulatory environment is more accommodating. Lending is robust. Consolidation has left some markets underserved, creating opportunities for growth.

“There is a general view that the economy is growing along with banks’ balance sheets,” says Tom Killian, a principal in Sandler O’Neill + Partners, L.P.’s investment banking group. “Bank stock valuations have held up pretty well despite volatility in the market.”

It’s good news for the industry. “There’s an awareness on the part of investors that banks are once again worthy of being invested in,” notes Gary Teagno, president and CEO of ICBA Consolidated Holdings and the ICBA Services Network. “They are looking at banks as a long-term investment. It’s a very positive sign.”

Capital plans
Going public was always part of Royal Business Bank’s strategic plan. Founded in 2008 to serve Asian-American immigrants, the bank has grown both organically and through acquisition. But it needs capital to achieve its goal of being a $5 billion bank serving Asian-American communities across the country.

“We’ve always said we wanted to acquire banks,” says Morris. “We were getting to the point where we couldn’t do cash deals anymore. We had to have a stock currency.”

It was years in the making. Royal Business Bank set aside money in 2013 to make its financials compliant with Public Company Accounting Oversight Board (PCAOB) standards. A year before going public, it implemented a full Sarbanes-Oxley Act (SOX) program, since the bank was approaching $1 billion in assets and would need to be compliant with the Financial Deposit Insurance Corporation Improvement Act of 1991 (FDICIA). It got to know investment banks, learning what niche they served, so it would know who would be best for each market segment.

“When the time was right, everything was ready on the accounting side,” says Morris. Planning ahead for an IPO is critical, says Teagno, and isn’t something that can be thrown together in six months. Investors don’t like uncertainty, and expect legal, accounting, credit and operating issues to be resolved.

Beyond SOX disclosure compliance, banks need to make sure their financials, internal policies and procedures, and independent board committees are all in order. A bank needs to have the internal staff and capability to put together all the documentation and analysis.

Employees from RBB Bancorp, the holding company that owns Royal Business Bank, visited the Nasdaq MarketSite in Times Square in celebration of their initial public offering (IPO) on the Nasdaq Stock Market on July 26, 2017.

3 tips for going public

There are many things to think about when taking a community bank public. David R. Morris of Royal Business Bank offers his best IPO advice.

1. Prepare your accounting and risk management departments. Make sure your employees understand the large amounts of work that will be coming their way and are ready for a few intense months. These departments will be slammed with paperwork. The risk function will need to be up to speed on the Sarbanes-Oxley Act (SOX), and the disclosure committee if it has more than $1 billion in assets. On the accounting side, there are the Securities and Exchange Commission (SEC) reporting requirements and forms to prepare for the roadshow.

2. Organize your options. If your bank has given anyone stock options, Form 3s must be filed right away. Royal Business Bank gave all staff options when it was founded in 2008. Options will expire this year, so people have been quick to exercise them, which added a surprisingly large amount of work for investor relations.

3. Get to know investment bankers. Know the types of shareholders a firm specializes in. Decide if you want retail investors, institutional investors or a combination of both, and find investment bankers that can support those goals. Royal Business Bank used four different investment bankers on four teams.

Size also matters when looking ahead to a potential IPO. Of the 31 IPOs since 2015, just six have been at banks with less than $1 billion in assets, says Killian. The median asset size is about $1.5 billion, and the average is $3 billion as of June 5. Just one was a bank with less than $500 million in assets.

Part of the reason is the relatively high cost of an IPO, Killian says. The other key factor is investor desire for liquidity. Smaller banks will have fewer shares to trade. That doesn’t mean they can’t go public, but it just might not be as cost-effective.

Often, banks looking to go public compare themselves with the Russell 3000 Index, a key benchmark of the U.S. stock market, Killian says.

“Once you get to the billion-dollar threshold, are valued at 1.5 times book value and are very close to [having] the $160 million to $170 million needed to be included in the index,” he says, “then that’s where the stock gets more liquidity, because fund investors want to own that stock so the returns are close to the Russell Index.”

Telling a story
Investors are looking for one thing: ROI. They need to see a significant upside. That can take many forms. A bank may have a successful track record, an undervalued stock trading below peers on the pink sheet, or growth potential due to a niche, specialization or a location in a growing region. That’s why a bank needs to understand its strategic direction, including its size and trajectory, before an IPO. “It’s not just financials,” says Teagno. “It’s being able to tell the bank’s story.”

Many of the most recent community bank IPOs have been in niches, like Royal Business Bank’s Asian-American niche, or are in regions in California, Texas, Tennessee and North Carolina, which have been experiencing relatively high economic growth, Killian says.

For example, on top of its strong financial performance, some investor segments were drawn to Royal Business Bank because it’s a certified Community Development Financial Institution, meeting requirements for some socially responsible investments, and is a minority depository institution. “Ultimately, it’s about whether investors can get excited about the story,” says Killian. “What’s the price you can buy the stock at now, versus what they think it can grow to in the coming years.”

In Farmington Hills, Mich., Level One Bancorp, Inc., the parent company of $1.3 billion-asset Level One Bank, closed on its IPO for $28.9 million on April 24 of this year.

“We explained our financials, track record of growth and plans going forward, and how our strategies going forward were similar,” says David Walker, executive vice president and chief financial officer of Level One Bank. He says investors found its relatively fast organic growth, economic performance record and the continued involvement of two founding members of the management team, including the chief executive officer and chief lending officer, appealing. The board and management team owned 45 percent of Level One before the IPO, and 37 percent after the deal.

After a one-week roadshow, Level One had many more orders than shares to sell, says Walker. The bank ended up upsizing the deal about 20 percent at an offering price of $28 per share. The $28.9 million in capital raised will be used to add two new retail locations and make additional acquisitions, Walker says.

The particulars
Roadshows like the one Level One undertook are an opportunity for the investment community to get to see and talk to the bankers involved in a deal. It’s important to get in front of the right kinds of investors, which makes the decision of which investment bank to choose a very important one, says Teagno.

It’s also important to come up with the right size of IPO, raising enough capital to support growth without taking on too much and lowering return on equity, says Killian.

One of the biggest opportunities for public community banks is mergers and acquisitions. Buyers have been paying in the range of 130 percent to 150 percent of book value. Private banks can either pay cash or issue stock, but if that stock isn’t traded, says Killian, it will be assumed to be at book value instead of the premium of a stock traded on an exchange, giving publicly traded banks an advantage.

For example, Royal Business Bank is in a crowded market with about 25 Chinese-American and Korean-American banks. Its best opportunity to grow market share is through consolidation, which was difficult as a cash buyer, says Morris. Since becoming public, RBB has announced a stock and cash transaction to merge with $873 million-asset First American International

Bank in New York, which serves the Chinese-American market. When the deal closes, the combined bank will have $2.5 billion in assets.

But to reach that point, and to see the magical moment when your community bank rings the opening and closing bell on the exchange, understanding your community bank’s mission, vision and value—and being able to explain them to others—is essential. Put the legwork in early, so when a market opportunity strikes, your bank is ready to take advantage.

“Have a good story and understand what made you successful to this point,” suggests Walker. “Explain what you’re going to do with the new capital going forward and why you’re a good alternative.”

Primary vs. secondary shares

When making an offering, a community bank must weigh how much capital it needs to support growth and realize a good return on equity with how much the current owners are willing to sell to get that liquidity. That’s why it’s important to balance primary and secondary shares, says Tom Killian with Sandler O’Neill + Partners, L.P.

Primary shares, or the newly generated shares sold during the offering, create revenue that goes directly to the bank capital raised and typically make up at least two-thirds of shares. Secondary shares are preexisting shares. Revenue from their sale goes directly to the share’s owner. Secondary shares can be a good way to increase the size of a relatively small offering, though they rarely make up more than a third of shares in an IPO.

In some cases, shareholders who haven’t had liquidity for five or 10 years may be very happy to sell. That was often the case in 2014, when primary shares made up just 54 percent of community bank IPOs as investors sought to recoup cash infusions made during the financial crisis. (Between 2014 and mid-2017, secondary shares averaged around 25 percent, with a median of around 11 percent, says Killian.)

Other times, it’s more of a struggle to get shareholders to sell. At Royal Business Bank, directors were each required to put in 80,000 shares so the bank could get the liquidity it needed, says David R. Morris, executive vice president and chief financial officer.

In the end, the bank raised $61 million in capital out of the $86 million raised in total.

Kelly Pike is a writer in Virginia.