Yet Another Value Podcast - Jim Royal, Author of "Zen of Thrift Conversions", on the basics of Thrift Conversions

Episode Date: January 9, 2024

Jim Royal, Author of "Zen of Thrift Conversions", joins the podcast to provide the basics of "Thrift Conversions", what that means, as well as examples that help illuminate them. Jim's book, "Zen of Thrift Conversions", available on Amazon: https://www.amazon.com/Zen-Thrift-Conversions-Hidden-Stocks/dp/B08KH3THCR?crid=1RO9I0CVP07JD&keywords=the+zen+of+thrift+conversions&qid=1704737642&sprefix=zen+of+thrift,aps,161&sr=8-1&linkCode=sl1&tag=andrew613880e-20&linkId=aa5821380d1063911549c0014b02427a&language=en_US&ref_=as_li_ss_tl Chapters: [0:00] Introduction + Episode sponsor: Fundamental Edge [1:49] The basics of "Thrift Conversions" [8:51] Safety [11:25] Management incentives [15:46] How can investors participate in IPO of thrift conversions [19:58] Needham [23:50] Thrift Conversions in current banking environment [27:26] Return on equities and repurchases [35:39] Characteristics of poor de-mutualizations and thrift conversions [39:14] Investor Activism [45:08] Why thrift conversions sell during a given time frame and why some don't [47:36] Worthwhile for investors to look at second step conversions (because so complicated)? [51:00] Lightening round: why more mutuals in the Northeast than elsewhere? How much does geography matter? [53:59] Three (3) interesting de-mutualizations to look at, according to Jim Royal Today's episode is sponsored by: Fundamental Edge You’ve probably heard it’s an “apprenticeship” system, or that you’ll “learn by osmosis”? But what if there was a better way to learn the equity analyst job? Fundamental Edge is re-defining training on the buy-side. Website: https://www.fundamentedge.com/ Whether you’re already in the seat or looking to break in, the Analyst Academy from Fundamental Edge offers a thorough and flexible path to developing the tools and frameworks employed by leading hedge funds. Breaking in: https://www.fundamentedge.com/breaking-in Check out the Academy syllabus and sign up for future free content: https://fundamental-edge.ck.page/academyinfo

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Fundamental Edge alumni get access to exclusive webinars, case studies, and an invite to their first annual analyst spring training conference in Arizona. If you want to fast track your byside career, go to Fundamentedge.com for more info. That's Fundamentedge.com. All right. Hello, welcome to the Yet Another Value Podcast. I'm your office, Andrew Walker. If you like this podcast, it would mean a lot if you could rate, subscribe, review of wherever

you're watching or listening to it. With me today, I'm happy to have on Jim Royal. Jim, how's it going? Going well. Thanks for having me. Hey, thanks for coming on. Before I start talking about what we're going to talk about, just a quick disclaimers, remind everyone, nothing on this podcast is investing advice. That's always true, but maybe

particularly true today, because Jim and I are going to talk, we could talk about 100, a thousand different banks in this conversation. And we're talking about thrifts slash mutual banks. Many of them are on the smaller side. They can be a little more illiquid. So everybody should just remember, there's extra risk there. Please consults financial advisor. Nothing on here is an investing vice. Anyway, Jim, I've been wanting to do a podcast just covering the basics of demutualizations and thrifts for since I started this podcast. And you're obviously, to steal an odd lots line, and you're obviously the perfect guess because you literally wrote the book on demutualizations and thrifting. I believe the title is the Zen of Thrift investing. Am I remember that correctly?

Zend of Thrift conversions. Yeah. I just reread the book. So I hope I remember it. You know, my goal is I know people, as I told you before, we started talking, I know people who literally spend their lives driving around the country joining thrifts. My goal is spend the first 15, 20 minutes, maybe going through what a thrifty mutual conversion is, why that can be so attractive, how people can get how to research it, then maybe get into some more advanced stuff and then provide some real-time examples inside. Does that all make sense to you? Yeah, let's go. And I'll just remind, I'll let everyone know. I'm going to include a link to Jim's book in the show notes. If anybody wants to go buy the book and get the full 300-page

experience that really breaks down some, not as timely examples, because it's mainly from 2017-2018, but, you know, the skill set is kind of timeless at this point. It's got activist interview, so please go check that out if you're interested. Anyway, Jim, let's talk about it now. What is a demutualization or a thrift conversion and why should investors kind of be so interested in them? Yeah, the thing is, is you kind of need to understand the background here

to sort of get why it's so interesting or why investors should be interested in it. And part of the issue here is that you've got these thricks, which is really a kind of name for a mutually owned bank. And what that really means is that the depositors own the bank's capital. It's not like a traditional shareholder-owned publicly traded company or bank in which the shareholders legally own, the investors legally own any equity capital in that bank. Now, that's really weird.

That seems to make no sense, right? Because you think, all right, well, it's a bank and it's running and who owns it? And that's really part of what makes it interest. This is the aspect that makes it interesting because depositors own it, but they're really not legally able to take their capital out of the bank. So they can't access that capital. So basically, I believe around in the 60s, a law was changed that allowed these banks to go public and the people who get to subscribe, who get first crack at that are the depositors

and the insiders in the bank. So when these banks go public, the depositors get to basically subscribe to the offering, and then they effectively get access and can own that capital that's in the bank. And that's really where the interesting opportunity is, because you've got this asset that nobody owns somehow, but it's still a going concern,

that then transfers to shareholder ownership. And so effectively, you're putting out money, you get that money put straight into the bank. And that's in a really important detail, is that this money is, this is not going to other shareholders who are selling out, insiders who are selling it. The money is going straight to basically recapitalize the bank, whether it needs that money or not. And then you own that. So effectively, you're putting in capital and you're buying not only your own capital, but the capital that's already in the bank. And that's really what makes it such a low risk proposition for investors here and a low risk thing. And that's one of

the things I emphasize in the books so much. Moreover, it's because of the nature of that transaction, I put in some money and I give you that money back and some more money. That makes, you're buying these things at a low valuation when they come out. And so that's a fantastic opportunity, that helps make them very low risk. The other aspect is the alignment here that you have with insiders. And that's not to be overlooked. The insiders are buying on the same basis as any outside investor, as the depositors are buying. And so that helps create, you know, unlike a traditional IPO where you've got some insiders who presumably think, hey, this is a great time that I can sell my stock out to you. And you get the Wall Street hype machine.

you know, in full effect, pumping the price, et cetera, et cetera, and raising that money. Well, insiders here are selling at the same, or sorry, buying at the same time as depositors. And so that's a great setup because they do have a little bit of incentive to keep the price down. They typically get options coming out of this. One of the great sides to look for is whether insiders

are buying in the offering. And so you've got to be a lot of this. So you've got a lot of alignment there. And then the other final point I want to make here is that, you know, you've got, you've got all these, you've got these great setups. The other point is the history here of buyouts in the space. Now, the thing is, you look at these banks and they're not going to look, you're going to think, ah, you're asking me to buy a bank with 2% ROE, you know, 5% ROE. And what's going on here? And the thing is, these banks are really not attractive banks on the fundamentals.

And you think, well, what's so great about buying a bank with, you know, buying it's got maybe 15% equity to assets or, you know, whatever other, you know, maybe it's got a great deposit franchise or something like that. The other aspect here is that these have a long track record of being acquired by larger companies at premiums to tangible book value. And so, great, if I can buy it sometimes 50, 60, 70% of tangible book value, maybe 80, and I can sell it 1.2, 1.3, 1.4, and historically, the ratio has been about 140% of tangible book value.

That number has declined in recent years. But then I have a low upside, or sorry, a low downside proposition and a moderate upside proposition. So I think it makes for attractive risk-adjusted returns. And so that's the super trend in this space is for consolidation. Now, of course, it's not banking in general. We had 25,000 institutions, financial institutions in the 80s. We've got less than 5,000 today.

So there's this ongoing consolidation. And that's part of what makes the investing in thrifts attractive today for people. So those risk-adjusted returns can be relatively high with that low downside. I'm just laughing because you just blew through all of my things. But let me go back. Let's go back at order. And I just want to provide some color, some details show that I've done the work to the listeners here. But the first thing you mentioned was safety.

And I think it was you who quoted Peter Lynch. Peter Lynch mentioned this in his book. I believe it was one up on Wall Street. But the safety here is it's like, I think Peter Lynch's analogy was it's like you buy a house and then you go into the house and you find out that your down payment on the house was inside of the thing. And what's happened here is, you know, the bank has built up a hundred million in equity capital. And investors are going to put in a hundred million of capital going in. That's what they buy it at. And then they put it in and they wake up and they put in a hundred million of equity capital. And there was just the hundred million in there. So you kind of get all that other equity capital for free because nobody owns it. So, you know, it's great because you're buying at a discount. count. As you said, I think most of these come public at $10 per share is the price they've all agreed somehow. I don't know how they'd agree on that. But most of them, you know, the book value per share, it depends if they do the min or max offering. We can talk about that. But it probably comes around $15 per share. So you're kind of buying them at two thirds of book value. And then the other

nice thing is they're very safe because, again, they had $100 million of equity capitalists to write this normal bank. They just get $100 million in cash in. So if it's $15 per share, half the equity is now in just like straight cash sitting at the holding company. So they can go do stuff with that. But if there was a financial crisis tomorrow, these guys are going to survive because they have 100 billion in cash and they only need a 100 billion in equity capital. So that's number one. If you want to say anything on safety or that downside, we can talk to the math later. I do want to talk incentives because I think those are really interesting. But anything else you want to say on safety there? Yeah, I think the big thing is to understand that, you know,

a lot of these banks are raising capital, whether they need it or not. And, you know, there are various rationales why the managers of these might take them public, a lot of them having to do with, you know, self, self, self interest. But, you know, they're raising capital and often they're coming out with 15, 17%, 20% equity to assets, right? So these things have just all this cash balance there. There's one that came out to about four years ago now, 35% of equity to assets. It's done a fantastic, then, great, all that assets, it's just repurchase, re- Which one was that? Crazy.

FFBW. It had 30% equity to assets and it's just gone on a tear repurchasing his own stock at a serious discount to tangible book buy. And so, yeah, we'll definitely be talking about so much cash. It's insane. We're going to talk repurches in a second because that is a huge piece of the story here. The other thing I'll know, you said FFBW, which is one I'm not super familiar with, but when I was going through your book, one of the funny things was, you know, again, I talked to a lot

of bank investors. I know a lot of people who live for this type of stuff. And it was just funny, you know, you mentioned some of the conversions. And there's only call it 10 per year at this point. But when I was going through the book, I was like, oh, this is the greatest hits of all the banks I've talked about with people over the year. You know, Harbor One pops up a lot in the book, which is still public. And I know a lot of people who are interested there. Let's go to management incentives. That's what I think is the most interesting, right? Because as you said, they put money in at the price that everyone else does in the Thrift conversion when they're doing it. And before Like, if you just told me what's the best incentive before they owned no equity, right?

The equities owned by all the deposit holders. If they did a merger before in the mutual or thrift structure, they would get basically nothing. You know, they have no equity. And really, the reason that most of these banks do these thrift conversions, it seems pretty clear. Like, what is it? I think this is that is 85% of them sell within five years after they do the thrift conversion. I remember that correct? The number I recall is 70% within five years.

The reason you do it is you've got a plan, right? hey, I'm going to go. I'm going to put equity in at the IPO price, which, by the way, really aligns you with the new shareholders. And then when I sell this company in five years, I'm going to get change of control payments. I'm going to get a huge premium on that capital I put in. Like, it's the best, it's just the best incentive structure I've ever seen. And I'll just throw, so NB Bank, or the ticker is NBBK for people who are listening, they are the most recent demutualization. They did it last week. So that's why I'm talking about them because they did it literally one week ago. And when I look at this, I see all the checkmarks with management incentive,

right? And I was kind of pulling up their S1 IPO. People can go find this in it. But almost every member of the board of directors, including the CEO, is 65 or older. So guess what? They might be wanting to dem mutualize right now because if they sell them three to five years, that's the retirement plan for them. And then I loved all of the directors put in for the IPO process. And I'm just looking like, the directors get about $80,000 per year in cash incentives. And most of the directors put in for $800,000 worth of stock. And now, that's not like Mark Zuckerberg owning, you know, 20% of Facebook, $50 billion, but when you're a director and you get $80,000 per year in fees and $800,000 per year in stock, like, you're actually quite equity motivated.

So I just love that they took the effort to go through this the mutualization process, which sells to me, they're, you know, I just, you can see it so clearly the alignment and I'm rambling a little bit. I'll tell us it over to you. The thing is, you look at the, and this is all detailed in the documents, right? So you can see all this laid out right for you what the, what the directors are purchasing and what the officers are purchasing. And, you know, and there's a certain path on what anybody can purchase. But you can go through line by line and see what they're all purchasing. And then to your alignment issue, you know, it's really typical that the CEO gets three X comp and bonus and, you know, the other fringe benefits. And,

you know, it's not uncommon for the CFO to get a year or two years. So on a change of control subsequent to the IPO. So yeah, you've got a lot of incentive there for these insiders. If they understand the playbook, and they ought to understand the playbook here, that most of these things get acquired, and you've got, you know, it's the thing I go into in the book. The other thing you've got is activist investors, you know, pushing them also toward making smart decisions,

which often means a buyout. Brett Coffron, founder and lead trainer of Fund Edge, barely remembers his first year as a hedge fund analyst. Most of the year was spending a blind panic. Was his research any good? Was he learning fast enough? What did his PM really want from him? Training on the by side was non-existent 15 years ago

when Brett was a new analyst at Madvert Capital, and he actually got demoted. Then he worked harder, found mentors, and asked for uncomfortable feedback. Eventually, he turned it around, learning by osmosis from the talent of people around him and rose to managing director. But is this the best way to do you?

develop talent? Brett doesn't think so, and that's why he founded Fundamental Edge. The Fundamental Edge Analyst Academy provides students with the tools, frameworks, and confidence to excel in any fundamental equity analyst seat in the industry. Lose the panic and fast track your career on the buy side. Find out more about their next cohort at Fundamentedge.com. Yeah. Yeah. Let's go to, you know, I think I want to talk to two pieces. We'll talk repurchase in a second, but I do want to talk two pieces before we hit that. Number one, a lot of investors are going to see this. And, you know, Thrift investors are famous. I, again, I talk to a lot of them.

They love the first day pop. And right? And what happens is the insiders are incentivized to prices at 10 and make sure 10 is not too undervalued because if they go too undervalued, like just none of this works. But there's going to be, they want their money. They put it in 10 and they try to get 12 or 13 on the first day, right? Because of all the reasons we've talked about and their incentivized to get a little bit of pop. So I want to talk about two things.

Number one, let's start with this. How can outside investors, how could you and me, how could a list, listener, go and try to get involved in the IPO process and take advantage, quote, unquote, and everyone should remember not investing device, all that sort of stuff. But just what would the process be if we wanted to be able to invest into an IPO? Yeah. So that's part of the attraction of these, right, is that you get to participate in the IPO, which are normally all, you know, out of bounds for most people. And the track record here is actually pretty nice, 20 to 25 percent returns on day one often. Particularly, the returns tend to be strong.

for one-step conversions than they do for the two-step conversions. Because, you know, when you, that one step puts you even- Let's not worry about that now because I think that's going into the weeds. Yeah, yeah. So that puts you even closer to that buyout later on. So to participate in any of this, you've got to be a depositor in that bank normally. And often it's 12 to 18 months ahead of when the actual IPO takes place. And you've got to be a depositor. But, a lot of these thrifts have kind of tightened up on who they allow to be a depositor. 30 years ago, you have Peter Lynch sort of going around everywhere and just sending in deposits by mail to any old bank that'll take him. And, you know, they've tightened up a lot in terms of

they want somebody that is associated with the specific geographical area, whether that's you own a home or you work there, you vacation there, or something like that, to allow you to become a depositor. Then at some point down the road, and it's completely indeterminate when that will be, which is really a key part of the downside of this whole process. You never know when they might decide to IPO. They say, all right, you've got a deposit here. You can participate and we'll sell you shares at the conventional $10 a share. And that's, they'll set a cap in terms of the maximum allocation, the maximum number shares that you'll be able to purchase. And of course, if you're going this route, you really want to make sure that you try to

maximize that opportunity. And so that's just, it's if you've got 10,000, 15,000, 20,000 sitting in that bank today or today or in the recent past earning not much money, you want to make sure you maximize that opportunity. So they'll provide you the opportunity then in the in the IPO to purchase, often 20, 30, 40, the Needham IPO allowed you to purchase up to 80,000 shares, so at $10,000 a share, $800,000. And you've got to, some wrinkles in the process, though, are a variety of people are, you know, as you mentioned, pursuing this route. And so that pizza pie gets split up into more slices. And if you really want to take maximum advantage, you need a larger deposit to get that full allocation. That might be, you know, for a smaller regional bank that's

or really municipal local bank that's only taking deposits from a local community, that can be much lower than a bank where they're taking national deposits. And so you've got more, more people are eating that pie, getting their slice of that pie, so to speak. Let's just pause there. I think that was fantastic. So again, if you remember, if listeners remember back to the start of the combo, I said, hey, I know people who like spend their lives driving around the country trying to get deposits to these thrifts. And this is why, right? If you want to participate in this IPO prop, like yes, most of them, again, not investing advice, most of them pop 20 to 30% on the day they do. But there is a long time frame between

getting that like these thrifts know that people want to get in for the the pop so they do as you said you have to have the deposit with them 18 to two years before and you had a lot of times you have to jump through a hurdle so if you want to go if people want to go to vote their lives to putting 10 20 50 000 dollars into deposits in thrift deposits all across the nation yeah you're going to get access to 10 of these per year like but it's going to take a lot of time and effort so that is one route and if you enjoy that you can do that that's how to get the i pail i want to turn to the next part right So, Needham. And again, nothing on this podcast of Financialitis.

I've only looked at the Needham S1. I'm just using them as example. We're not making a pitch here, right? But a lot of people will look at Needham or a similar bank and say, oh, IPO to 10, pop to 13. That's a 30% pop in one day. Everyone would love a 30% pop in one day, right? Like, you do 30% annualized per year. That's better than Buffett did over 50 years.

You're going to be the richest man in the world. They look at that pop and they say, oh, I missed the pop because I didn't have a thrift. I didn't have a deposit in that threat. I've missed it. Right? It's human nature. You miss the pop. I missed it. It's not interesting. Can you kind of explain, let's start talking about why, you know, even at, and I'm using Needham at 13, just because it's trading at 13. It's the most reason. It's not, it's not a recommendation in any way, shape, or form. Can you kind of explain why just thinking, oh, I missed the pop might be missing the forest for the trees? You have a great quote in the book. Sorry, one more second. I'd love it. You have a great point in the book that says, from one investor says, hey, I've sold into these pops before, but I've regretted every, I've basically regretted every pop I've sold in. to. I wish I'd just held the thing. So, now I'll turn to you. Yeah, yeah, yeah. So, you know, again, falling up just a little bit from before, but like that IPO process, you've got to send in all that money. And then later on, you figure out, oh, you only got 5,000 share. You only got

10% of what you wanted in the offer, maybe. So you've got, you know, it's a bit of an onerous process. So, yeah, so you get this, you get this pop, right? Well, you know, that bank still might be trading it 70%, 75%, in the case of Needham, about 82% of tangible book value, right? So you still have that long term, that long term potential for appreciation and still relatively low downside there. And the thing is, with a lot of these, it's not unusual that they pull back after that pop or, you know, in the three to six months. And part of what you really do want to think about and is that longer term trend here. And there's definitely this element of the looky lose who want to get in on the IPO and, you know, great. But there's that super trend of these

being acquired at premiums to tangible book that really is attractive. And then you, you know, you add on top of that the repurchases that smart banks do to help goose that potential buyout target even higher. So it's the other aspect of it, and I'm at pains in the book to discuss it because I think it's really important for investors to understand is that then it publicly traded, you get that downtrack. It may come back substantially. And then it's, you know, you don't have this onerous process, this onerous IPO process to get in there. You know, you can go out there and buy it immediately with as much money as you like. You know, you're not even limited to the allocation.

given the long-term opportunities here, investors who are focused just on that IPO, that first week or two, can really be potentially missing substantial upside. I also think it's kind of interesting. Like, if you think there are these investors who are there for only the pop, right? And that's interesting because it almost creates a class of four sellers, right? They get the 10 to 12. And then all of them are trying to get out. So if you're a buyer who has a fundamental view and fundamental value, then you can get it at 12.

And, you know, again, like Needham is probably trading for about 13 book values there, 16. Now, I do want to ask one question. So just moving away from the, like, historical theory to today. One thing I would have a concern with is, okay, I'm with Andrew and with Jim, these things have worked out really well historically. But, you know, your book talks about how, hey, one of the reasons thrifts convert and then sell themselves is because if you're a hundred million dollar thrift, like the technology expenses that any of trying to keep up with the J.P. Morgan and their checking app and keep up with regulations. Like, it's just too much for these for these thrifts. So they actually want to convert and sell because scale does matter in the industry. I do worry that at, I need him's a little bit on the larger side, but especially some of these smaller threats, right?

Historically, they pop to 80% of book. We'll talk repurchase in a second, but three to five years later, they sell for 140% of book, right? And I kind of worry, hey, in a post-Silicon Valley Bank world, with all the regulations, with all that's it, like, what if, what if these are no longer premium takeout candidates anymore? It's kind of like, hey, you know, Silicon Valley Bank. proved we can lure deposits away really darn quickly. So there's less of a deposit franchise for these things, which you pay a premium because there's the deposit franchise a lot of time. I'm not going to pay it for the deposit franchise, all this sort of stuff.

If the exit is 1.1 times book instead of 80% of book, like the returns start looking a lot less attractive. So what do you think about like that kind of go forward? And again, it doesn't break the downside thesis here, but it would take away that really attractive return that these have historically done. Yeah. And I think to some extent you're seeing that. Again, it's important to understand, too, that a lot of these acquiring banks are thinking

about, well, I'm really acquiring the loan book, I'm acquiring the deposits, and there's just so much management and so much cost synergy that can be taken out of that business when, you know, I'm basically plugging three or four 10 branches into my branch network. So I think it's a great question. Often what you'll see, though, in that you'll see. see that even early on being priced into that. So the marginally unprofitable bank will trade at 50% of tangible book value when it might get taken out at book or 1.1. And so you'll often see that reflected in the initial valuations. So I'm not sure if that exactly gets to the question

that you're that you're getting to, but you know, it's broader, you know, in a broader context, it's absolutely right. These, to compete, these banks are really having to invest in these costs, technology, security, and things like that to really try to keep up. And they're not well positioned. They simply do not have the scale. And again, for context here, Anita, is really, is, you know, a $400 million market cap or so. you know, in many cases, we're not, that's on the pretty high end of the type of banks we're talking about, you know, that are in the thrift space. Normally, we're often talking about banks that are 25 to 50, 60, 70 million, right? So even, you know, substantially smaller than that. The game

plan here is simply that they are acquired. There's no effort for them to grow. My favorite one right now is Catalyst Bank for. The ticker there is CLST. Everyone should remember nothing on this podcast, investing advice, but my favorite one there is Catalyst because it's a $50 million market cap bank, and they're based, I think they're like one or two branches in Lafayette, Louisiana, which is right at the side of my hometown. And that will actually be a nice segue way to repurchase because do they repurchase stock? But I guess before we actually, we can work repurchase into this, but when people look through the S1, I think one thing that's interesting is right. If you look at banks, you've been trained higher ROE is better, right? A bank with a 4% ROE deserves to trade for less than

book value because, you know, if they trade a book value, you're going to make 4%. I think one thing a lot of people might look at and they'll look at these banks say, oh, okay, converted and Jim and Andrew are talking about how they're interesting, an interchangeable book. And I get, yes, if a buyer bought them, they would get synergies and stuff. But if it's going to be three years sold buyout and these guys are going to do, you know, it looks like invest one, they're doing 2% ROEs or 3% R0s. Like, that's not going to end up a great return. So can we talk about return on equities? And I think that'll be a great jumping off point for repurchase as well. Yeah. So, yeah, I mean,

there's no question. A lot of these banks in, you might, the casual listener might think, hey, 2% or 3%, you're clearly exaggerated. No, this is really the vast majority of these. They're often run for insiders or they don't have and they don't have the scale and they're not super cost focused. These are banks that are not used to being in the public eye. And so, you know, as we as we've talked about, they come out with a ton of cash, typically about half that cash. that they raise in the IPO goes to the bank operations itself. About 40% typically goes to the holding company where it's immediately available for acquisitions of other banks,

other capital allocation decisions, but very, very significantly, the repurchases. And this is one of the absolute tried and true means to increase shareholder value immediately, of course, you buy below tangible book value. as long as you're not destroying and destroying tangible book value with your ongoing operations,

then you've immediately made an accretive capital allocation move that benefits all remaining shareholders. So to me, the repurchase is one of the very, maybe the very best sign that managers are looking out for you in this, or outside shareholders, in this setup.

Because there's so much potential here for self-dealing, And these banks, as I said, in many cases, these banks have been run as personal fiefdoms for the, for the insiders. And these are people who are not used to the scrutiny of, you know, a public market where shareholders now own the bank. And the insiders are accountable to those shareholders. So those repurchases are one of the absolute best signs. As I say, with a bank with 15 or 20 percent equity, can take out a substantial portion of its stock. You know, 20, 30%, as I mentioned, FFBW, at 35% has just rapidly pared down its shares through aggressive repurchases. And often what you'll see is banks are forbidden

in the first year from repurchasing stock. But after that, it's game on. And often they are still well below tangible book value at that point. And again, for a refresher, after three years, they can be acquired. So often in that year two, year three, or year two, year three, they're aggressively repurchasing stock. So that might be a 5% authorization. And the best banks are buying that in months in a month or two or three, and then announcing another one, another 5%. I think the very best ones are doing 10% and plowing through that in three or four months. And then announcing another 10%. percent, right? So they can really very quickly retire a stock that's immediately accretive to investors. If you, and I mentioned CLST, so I'll mention them again. If you look at CLST, I believe they did 5% of it in like four months and then they announced another one. I think it

took them five months through 5%. So they were just burning through these. I honestly, the stock silly liquid, I don't know where they were finding the block from. So let me ask, look, the stock shooting below tangible book value. Hopefully my listeners like are sophisticated enough and we've mentioned enough to know you buy a stock below tangible book value. Assuming tangible book value is not overstated or the operations or an disaster or something like you buy below tangible, you generally create five. What's a good number for repurchases here? Because, you know, I do, I worry like they're, they're so overcapitalized a lot of times. If they could throw out a repurchase and do 2% a year and they could say, hey, we're creating value, you know, retiring shares at 2%

we're staying safe. That wouldn't really cut the muster for me, but it would probably like keep activists against them? So if listeners are looking at a bank that's, you know, one year post-conversion, post-the-mentor, like what's the number they should be looking for a bank to be buying back shares to say, oh, these managers really get it. They're trying to create shareholder value, and they're probably on the path to selling this bank in a few years. Yeah. So, you know, obviously this depends on how much capital they've gotten reserved. This, a bank that comes out with eight or 10% capital, eight to 10% equity after after a raise is not in a great position to do it. And that of course is, you know, in this checklist of things that I go through is one of the strikes against it. If it really can't repurchase stock, it's probably hasn't been run well in the first place to begin with. But I think it's it's very easy for banks to do 10% a year minimally. And most have plenty of capital to be able to. to do that. I think your more aggressive banks could even do 15% to 20% a year, depending on,

you know, how much capital they ultimately have. But, you know, 10% a year is already pretty aggressive. So that's kind of my ballpark. But, you know, the more capital you have, when you see insiders that really move a lot of capital to those. repurchases, that to me is an increasing vote of confidence that they are ultimately going to sell, right? Insiders could use that money for buying another bank, which is usually just a terrible decision. And it's a horrendous decision when your own stock is traded below tangible book value. But, you know, they could use that in all types of ways to, you know, all types of self-dealing ways, whether that's growing their own salaries. And the fact that they use it on ways

that benefit shareholders generally is a quite positive sign. One of my favorites here, too, is William Penn, which is running up on its three-year, three-year threshold, where it could be on the auction block. And so they've also been very aggressive. One of my favorite signs is they do a 5% and then they do a 10% after that. So looking at that and just the aggressive level of repurchases and overtime, and, you know, as we see in other places, not just merely announcing it, but announcing it and then following up on it, ideally, quickly. I'm laughing because I know William Penn. I know one person on Twitter when I said you were coming on said,

have Jim talk my book for me and mention William Penn. And I've talked to other investors over the year, especially last year, like over the summer when the banks were just getting crazy. And I had two investors who are deeply knowledgeable in the space who are like, William Penn is one that is so clearly focused on creating shareholder value, and they're the textbook demutualization. And I'm looking at their insider buying history right now, which is another great one, insider buying. And it looks like everyone in the C-suite and a few directors bought stock over the past year, which is another great sign there. Yeah, I guess, hmm,

what else should we be talking about, what else should listeners be thinking about or talking about when it comes to demutualizations and threats? We've really been talking about characteristics of good ones, you know, the types of things that we want to see that ultimately lead to the types of returns we think we can, you know, the attractive returns that we think we can get here. The flip side of that is the banks that are really engaging in itself dealing, that are sitting on capital, that are blowing it on ill-advised business, you know, business expansions. And just generally running a poor operation. And I spend the latter third of the book basically interviewing, providing interviews that I did with three noted thrift activist investors. And these guys are really important about cleaning up the bad actors in this space, getting them to repurchase stock, make smart, just broadly make smarter capital allocation moves.

And then often that results in a sale of the bank down the road. And so really, you've got these activist investors who help keep this space a little more investable. There are certain banks, for example, that I would not purchase. Even if it's sort of low risk, I wouldn't purchase it unless you had an activist investor in there holding management's feet to the fire to make smart decisions. And so that's a tremendously important element here that you, you, and these guys have relative to the size of this very niche, you know, backwater of the market, they have a lot of power. And when those guys show up, management's need to really pay attention and shape up.

So I followed Stillwell's 13D's. He's the first activist investor. I followed them since I, kind of started investing because, as you said, the great thing about banks is it's very math-based, right? Yes, there are synergies and, you know, you probably want to buy the bank next door to you because you get the talent over because you get more deposit synergies and stuff. But the great thing about for activists is it's a pretty simple case. Hey, bank XYZ, your tangible book values 15 and you're trading for 11. You're worth more dead than alive. Go sell yourselves. Go buy back shares. But I mentioned so well because I, when I was rereading the book, I had forgotten in 2014, still well, ran.

the activist campaign that had maybe the greatest photo that will ever get taken an activist campaign where I think it was the chairman of the board fell asleep at the annual meeting and so I'll snap the photo and said hey shareholders if you want it if you want somebody who actually is awake when they're watching over this bang vote for my slate instead of him it was great right because this is in the filing right I mean it's that's that's really the type of approach still well will take in in activist campaigns where the management is simply being utterly intransigent, really just digging in its heels and ripping off shareholders, frankly. And, you know, I mentioned this a little bit in the interview, but sometimes I just

kind of wonder if there's this moral dimension to what he's doing, because the one you mentioned where the chairman's asleep, this is a $15 million bank, right? This is a, this is a bank where there's not a lot of upside, not a lot of potential upside. But, you know, still Wells gone around and put billboards in Philadelphia, when he is going activist on a bank, they are saying, these are your directors or insiders who are, you know, ripping off the bank. Let me ask a question about the activist, because it's one question I've always had. And again, I know some of the bank investors. I've talked to some of these guys before.

But if I'm looking at a bank, the mutual, right? And it's been two years, then the stock's trading for 70% of tangible bulk value. Right. And I'm just throwing out numbers. I don't have a specific bank of mind as I throw. aside. But I always wonder, hey, if none of the activists are in there, because the banking world is not big, right? Like, these activists know, they look at all these threats. And I always wonder, if none of the activists are in there, is that a sign? Like, do they know something about

the loan book? Or, you know, is management, has management found an entrenchment defense so good that they'll just never get in there? Or do they do these activists just look at it and say, oh, well, yeah, it's probably undervalue. But, you know, I am an activist. My goal is sell and I actually think these guys are going to do what's right, so there's no real role for me. I always, but I always look at it and say, is the lack of activists a sign that there is not opportunity here or there is. I don't know. What do you think about that? Yeah, I think it's a little bit, a little bit, a little bit of column A, a little bit of column B there. You know, in the interview with Stillwell, for example, right? He's like, you know, I want 50% upside if I get involved.

And certainly, too, what a lot of these activists are working on, are buying anything. into banks where the valuation is already lower than it would simply be if the bank was just mediocre instead of sort of actively doing bad things. So I don't think the absence of activists in there is a bad sign, particularly when you're seeing the other things that you want to see, right? The insider, the insider ownership, the repurchases, the other good fundamental metrics. And going activists in particular on a company is often a multi-year affair. You know, Sidman might start in there, but he's working against a classified board, for example.

And so that might take time to get that board in shape or to get the votes over a period of years as the stock stagnates. So, you know, those activist campaigns can be really brutal. And sometimes these guys are hanging on for years and years and years. to push through what they think is the best course of action. So, you know, I think there are sort of multiple aspects and the absence of an activist is not, and certainly not a bad sign for the investment. One more question, and this is just stream with thought coming off the top of my head. You know, look, when a bank deutilizes, they're not going to have an activist in there the first day, right? Because the most you could buy of a bank on the demusualization

day is kind of like, it's less than 1% of the bank, right? They're not going to have an activist. The activist probably, they could have done it personally. You can't, you, I don't believe you can do a fund participation. So you're not going to have an activist day one. When would it when should people start thinking, oh, an activist might show up here, right? Is it month six because it takes that long to buy it? Or is it month 18 because the activist says, oh, we're past the first year. They're not by repurchasing shares. It's time to start cracking the whip. Is it month 30 because, you know, three year moratorium on buying. They show up month 30 because to say, hey, I can start prepping this company for the sale. What do you think like if an activist is

going to get involved, people should start thinking, oh, this would be the time. Yeah. So I, you know, I think it's a great question. I think kind of almost anywhere along the line. And the, again, and let's distinguish between an activist taking a passive stag and actually, you know, going activist. One of the one of the big things, of course, is day one, 30, 40 percent of the stock trades on day one. And so that's a really attractive time for an investor who wants to take a larger state

to come in and just, right, get that stake very quickly without influencing the price. incrementally too much. You know, that first week, you've got a lot of the stock trading and often the volume falls dramatically from there. So that's an attractive time if, you know, an activist sees something that they don't like or they've been in contact with management before and understands how the bank is being run, that they're going to build that stake early on and then maybe perhaps build it out so that they've got that seven or eight or, you know, 9.9% stake in the bank. But you may well see it later on as well. Saiband has gone activist on Blue Foundry. And if I'm not mistaken, that took over a year before, you know, of mediocre performance

and self-dealing before he really amped up the pressure on them. And then you've got banks that are, you know, beyond that three to five-year window when most of them get sold, where you know, an activist sees an opportunity, maybe new management has come in and an activist sees an opportunity to get that bank sold. So it can really be in a, you know, really anywhere along that process. Like all the best investors, Fundamental Edge believes that the learning process never truly ends. That's why the Analyst Academy is just the beginning of their journey with you. Fundamental Edge alumni gain access to exclusive content, such as their guest speaker series. It recently featured TEDCDs of capital allocators. Alumni can also look forward to frequent

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call it 70% of de-thrift, demutualizations, whatever, sell within a three to five-year window. the 30% that don't, what do you think kind of falls into that 30%? Because some of them, like, I believe Richel Ashley mentions some of the ones that didn't do it became like some of the greatest compounding stocks and they grew from thrifts to like real, real banks. They were fantastic. But some of them are also the management is just taking the feet. Like the 30% that don't, how many of them do you think don't because it's good?

How many of them do you think don't because, uh-oh? And how many just, you know, some do you sell in your spot to seven? What would you say the breakout of that is? Yeah, you know, there are those handful that go on and become, that are well run and perhaps with the advice or expertise of an outside investor, such as Lashley, make smart moves and go on to acquire other banks. You know, speaking in generalities, that's that, you know, most thrift banks do not have that option, right?

For me, this is me, you can add, and I think you mentioned that for me, if a thrift I'm investing in or looking at, if they do an acquisition. I'm just, oh, no, this is, I wasn't here for this. And most acquisitions, especially on the thrift scale, you want to be the seller, not the buyer. Absolutely. But then you've got those two step thrift conversions where, you know, I think I'll point to Coleman, for example, Coleman Bankorp in Alabama, where they went public in the mid-2000s with their first step. A couple years ago, they did their second step.

They've sort of been public for 15 plus years. And, you know, so there's, there's a range of different ones, TFSL, of course, which I, third federal, which I highlight substantially in the book, you know, went public 2007 and it's been sitting around, you know, others such as FFNW, first financial Northwest went public around that same period, still well had a campaign, you know, stock price doubled or tripled. Stillwell's out of that. They're still running. And, and, And with no clear intention that they will ever sell. So it's certainly in that five to seven, that year five to year seven, you're getting another relatively substantial chunk of what's left that sells. After that, it's just, it's, it's, it's, I would say it'd be hard to characterize what, what remains. I'm going to give a tease for the book.

I think it's chapter six or maybe chapter five. It talks about, we've mentioned, most of what we've talked about, are one-step conversions, is what I'll call them. We've mentioned two-step conversions. They are very complicated, and I don't want to talk about them on the podcast. People can go read. I think it's chapter five. It might be the chapter six.

If they want to specifically break down, go read that. But I will just ask you, if people, you know, the, again, the second-set conversions are very complicated. Eventually, they have the second conversion and they flip. If you're kind of looking at the two-step conversions that are in between step one and step two, do you think it's worthwhile for investors to spend time breaking down that complexity? like, is there reward at the end of that rainbow? Because, you know, the second conversion, you just mentioned a bank that took over 10 years to do it. They are attractive once they do it.

But if you're looking at a bank in between, is it worth the time and effort to investigate that? Or would you recommend? Because everybody's got limited time. We're not recommend making it a financial way, but just if people are triaging, do you think it's worth looking at those or spend your time elsewhere? Yeah, it's such an oddball situation. If your investing thesis is really, I want to be in here with this low risk proposition that will eventually be acquired on a, you know, on a time frame that I might be able to handicap, then, you know, you stick with the fully publics, the fully public thrift institutions, whether that's the standard conversions or the ones that have already completed the second step of the conversion, because they're on that same three-year time flow.

Yep. If you're not doing those, then that first step conversion can be in limbo literally indefinitely, particularly if they have no need for that capital. So they can just stay there and stay there and stay there and enjoy the insiders can enjoy the rewards of being public with potentially higher salaries and whatnot without the threat of being acquired, which is, you know. So, yeah, finally, at the end of the day, if you want to go sort of dumpster diving, you can look at the ones that are trading really, really cheap on that price to partially converted tangible book value, but realize that you're not, this bank is unlikely to be sold in any short time period. It can't be sold in any short time period.

If I told you I had a thesis that banks that completed the second set conversion are more likely to get acquired within three to five years, just because, you know, the management team finally ripped the Band-Aid off and did the second step and they could have just kept going indefinitely. Do you think that would be a crazy thesis or do you just think the incentives a lot? And I think that's because the insiders can control when they do that second step, you know, again, unless you've got activists, you know, Stillwell, one of Stillwell's thesis activist campaigns was basically to get banks to move from that first step to second. From that limbo.

That is an impressive activist. That's impressive. Yeah. So, yeah. So if these insiders really have full control over when they do it, over the time frame that they do it, I think it's a very reasonable conclusion to, particularly if they've done it.

They're sitting out there 10 or 12 years. It's really common for a bag to wait two or three years before they do it. But if they're sitting out there 10 and 12 years and they've enjoyed those perks of being public and then they suddenly do it, I think it's a very reasonable to be. conclusion to get to, hey, they might be thinking about going out here pretty soon. Just for the Stillwell's activist campaign on it, not fully convert is impressive because from memory, I believe the, you know, the mutual company owns like 60% of the equity, and I think they have the right to vote the proxy of all of their depositors. So that you're going

up against the bear there. All right. Three lightning round questions, and then we'll wrap it up. The first two are geography related. All the mutuals are apparently, not all, but, you know, like way more than you would expect, or in the Northeast. Massachusetts says a ton of them. Is there a reason why so many mutuals are in the Northeast versus, you know, it seems like California should have more than their share. I don't know, but why are so many concentrated in the Northeast? Yeah, a lot of that is just historical. You know, you've got, in many cases, a lot of these banks that have existed since the 1900s. And so a lot of it has to do with the history of the mutual as an institution where you have groups getting together to capitalize a bank

to help the community. And so they have, you know, that original capital in a certain sense still persists in that bank. So some of that is just historical accident. But it relates to the 1900s, not the 1800s, right? It's not like California was the Wild West in the 1900s. Is there, were there any, like, tax laws or anything? I can't speak to that in particular. I think, more broadly speaking, it's just they were seen as an outdated sort of mode.

again, you've got a lot developed in the 1920s and 1930s, but, you know, some of that is also in response to economic conditions at those periods of time. So I can't speak to why a California, for example. Makes total sense. I just, you know, if you do a lot of thrifts, I'd say 25% are from Massachusetts. I mean, and you're like, mass, like, yeah, it's great, but why it's just so surprising. Speaking of geography, how much does geography matter, right? Like, I threw out one that was Catalyst Bank, one or a couple branches in Lafayette, right? Lafayette isn't exactly a boom town. How much does geography matter, like, you know, the very small kind of rural one versus maybe one that's in a rich town in Connecticut? Does it matter? Or is it all just like kind of,

tangible book is tangible book? Yeah, I mean, unless you see something tremendously horrific, like, you know, some massive out migration in a state or something like that or that specific, you know, economic area. You know, I still well, makes a great point. He's like, there is, every bank that exists, there is somebody who wants to acquire it. And so, you know, I think unless there are, there's some horrendous geographical, you know, issue involved in that, that specific bank, that it's likely ultimately to be acquired based on, you know, based on the averages. So it's, you know, you want to understand the, and of course, that said, you know, in, for example, sunbelt areas, right?

Those are more attractive candidates than something perhaps in the Rust Belt or whatever, right? Last question. I've already given NDBK, so you can't use that. But just this is not a recommendation. It's not even saying you think these stocks are attracted. But if listeners are interested in just choosing three demutilizations and you can use ones that it did last year, ones that did it three years ago, two years ago, whatever, if just three interesting ones that you think they could go and look at and see, like, you know, maybe one of them's already repurchasing shares. They can go, look, just three interesting ones that listeners can study if they want to get to know this area a little more. Yeah. So is it cheating if I mentioned at the VW again? I think it's so interesting.

And, you know, it's got really that number one aspect of repurches that just so aggressively, I mean, as aggressively as I've seen any company repurched stock, any thrift repurched stock. So I think that makes it super interesting and likely, you know, this year was not a good year for Thrift buyouts for pretty obvious reasons. But, you know, it's just, you know, it's 10 months after or 12 months after it, that it could be acquired. So it's really firmly in that target range. I love William Penn. I think their acquisition or their repurchase is tremendously, aggressive and attractive. And I think there are lots of signs here that they're on the, they will be on the auction block as soon as they can be, which I believe is in March, 2024. And as you mentioned, insider purchases. And they're trading around, they're slightly below tangible book value at this point. So, you know, I don't see a super lot of downside there. If I can, I highlight this one in the book, and again, maybe I'm cheating here, but you look at TFSL, which is just this strange beast. I go into it a lot in the book. And I think it's super interesting because it often pays seven, eight percent dividends in the recent downturn that we've seen or that we saw in 2020. We saw that, basically that yield go up to 10%. It's been paying, it's been paying this yield.

this same dividend for years. And it's just a really interesting situation for detail, for reasons. And I don't want to get into, because it's really hairy. I already tease the book, man. You don't got to tease the book again. So that's just a super interesting situation for the dividend.

And then just really the ability to trade the stock over time, because it trades within relative, you know, it trades consistently between a certain ranges. So I think that's interesting. And that, you know, if I can mention Catalyst, again, like, as you have, via the, with aggressive, aggressive repurchases there. So. Yeah, they're repurchase. I just, you know, I stumbled on because I looked at probably 300 banks in April, May, June.

I just thought they were interested in. Catalyst was the one that just jumped out because they were buying shows like crazy. I don't know where they're finding all these shares. But I was like, oh, buying shares like crazy in Lafayette. I love these guys. Well, Jim, you know, I think the really fun thing about this conversation is, ignoring that, you know, let's say we mentioned seven banks on this, probably four of them will be fired in the next 24 months. But if you ignore that, like, we could play this conversation.

We could have played it four years ago. We could play it four years from now. And I think a lot of it's pretty timely. You know, when I was reading your book, I read it before and I know people who've been doing this stuff for years. But, you know, all this stuff, it was from 2017 and 2018. But if you just blanked out this tickers, all the stuff is completely timeless. I did NNBK when I was prepping for this. and everything you mentioned to look for was exactly still in the perspective.

It's very timeless. So people, I think this is a skill set people can pick up and get very attractive, risk-adjusted returns if done correctly and done cautiously. Anyway, last words from you, anything you want to say? Yeah, and that's exactly why I wrote it. I basically wrote it for, you know, people to understand this long-term super trend of consolidation. But there's this niche area of the market that people, that is easy to overlook or that that seems unexciting.

and here's how you work through it. Here are the opportunities, and it's really the only book that explains the multiple, the many different ways to invest over that life cycle of a thrift. So, you know, that's the key thing, helping, explaining those patterns

that you can use over and over and over it. Perfect. Well, hey, again, anyone who wants to link to Jim's book in the show notes, if you want to dive into this further, all Jim's on Twitter as well, we'll include a link there if you want to reach out to him and get there.

But Jim, thank you so much for coming on. This has been great. trying to do, I've been thinking about something like this since I launched the podcast and I'm glad we hear this going. So have a good friendship. Thank you. A quick disclaimer, nothing on this podcast should be considered an investment advice. Guests or the host may have positions in any of the stocks mentioned during this podcast. Please do your own work and consult a financial advisor. Thanks.