Banking/Private Equity Crisis: Bargain Prices Create Massive Opportunity

The US regional banking crisis began with private equity. Could it end the same way with the so-called masters of the universe?

Silicon Valley Bank had attempted to sell shares to raise capital in conjunction with a capital increase by the General Atlantic company. The announcement spooked the stock market and depositors and the deal never happened. Since then, US regulators have done so SVB seized along with Signature Bank and First Republic Bank and sold them cheap.

Other smaller regional lenders, including PacWest Bancorp, were also defeated this week by worries about their durability. But their problems may be less about leaking deposits. On Thursday, PacWest said its deposit base has stabilized in recent weeks and its percentage of insured deposits has jumped to 75%. Like First Republic, however, PacWest’s profitability declined as it had to rely on expensive sources of funding.

One option for a private equity buyer would be to set up a so-called private public equity investment or PIPE. This equity vehicle provides liquidity and loss-absorbing capital to absorb high interest costs. Next, the bank could adjust its assets – loans and securities – to take advantage of higher interest rates.

A bolder move would be for a private equity firm to simply acquire a bank and take it private. This operation could crystallize accounting losses and would require a substantial contribution of own capital. Yet these beleaguered banks can offer once-in-a-lifetime bargain prices with huge return potential, if the owners can weather the storm.

Shares of buyers of SVB and Signature Bank surged after those sell-offs. PacWest had a market cap of $3 billion two months ago. That plummeted to about $400 million. Banks’ profitability can also quickly reverse as their balance sheets are leveraged 10:1.

Some of the largest private equity firms have made their names investing in troubled financial institutions, particularly after the savings and loan crash of the 1980s and later the global financial crisis.

It’s not a layup. Private equity firms would now face both regulatory challenges and political opposition. But they also bring hundreds of billions of dollars of capital, as well as operational expertise. It is surprising that financial investors have not been fully involved in the bank bailouts. Perhaps there are too many to choose from, but the potential is there.