First Republic tale turns into buyout Goldilocks

November 30, 2010

The author is a Reuters Breakingviews columnist. The opinions expressed are his own.

NEW YORK — Banks these days don’t generally make for good fairy tales. But First Republic’s story gets pretty close. What looked like a happy ending three years ago turned out to be a miserable existence trapped inside not one, but two, grim houses before finally escaping. Now First Republic’s narrative is turning into a buyout Goldilocks.

Merrill Lynch overpaid for the lender and wealth manager back in the overly hot market of January 2007. The $1.8 billion price tag, equating to 24 times expected earnings, left the Thundering Herd’s investors feeling burnt even before the market crashed and profit plummeted.

First Republic then spent almost three years owned first by the imploding Merrill and then by its savior, Bank of America, which subsequently became a scary yarn itself. BofA also had already taken in a bigger wealth manager, U.S. Trust, and had no need for the relatively small amounts of loans and deposits First Republic had to offer.

What’s more, BofA sorely needed to raise equity to comply with the results of stress tests conducted by U.S. regulators. So in last year’s cool market for bank M&A, the megabank agreed to offload the unit to management and an investor group led by Colony Capital and General Atlantic. It appears BofA did, at least, get roughly the price Merrill had paid for it — the new owners put in around $1.8 billion of equity. But after a bumper 2009, they look to have picked up First Republic for around five times earnings.

Now, just five months after finalizing their buyout, Colony and General Atlantic are preparing an initial public offering. It values First Republic at about 12 times this year’s earnings, based on annualizing the results to September. That’s a tad better than larger banks like JPMorgan and looks just right for a bank that caters to the ultra-rich, has low loan losses and should be relatively unscathed by new regulations.

To top it off, the valuation would deliver the new owners a tasty 77 percent return. It may not yet be happily ever after but First Republic has certainly come out of the woods.

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