As HomeStreet Inc. explores strategic alternatives, a full sale might not be in the cards, but a sale of its delegated underwriter and service license could attract many potential buyers.
Seattle-based HomeStreet is reportedly exploring its strategic options including a capital raise, asset sales, or a whole-bank sale, Bloomberg News reported Aug. 1. However, sources told S&P Global Market Intelligence that a sale of the institution is not likely, due to its underwater securities portfolio and lackluster performance.
HomeStreet reported a $1.67-per-share loss in the second quarter, largely due to an impairment of goodwill during the period, but some have questioned the sustainability of results going forward, with Piper Sandler analyst Matthew Clark noting in early August that the company could find it difficult to remain profitable in the second half of 2023 due to net interest margin pressure and rising expenses.
Conversely, buyers might come flocking for the company's delegated underwriter and servicer (DUS) license, which allows for multifamily lending through the Federal National Mortgage Association, better known as Fannie Mae. The company has opted to hold onto that license when approached in the past, but recent pressure from an activist investor might lead the company to reconsider, Piper Sandler's Clark said in an interview.
HomeStreet did not respond to a request for comment for this story.
Sale challenges
The heightened interest rate environment has put a near freeze on M&A as mark-to-market accounting proved too costly and difficult for buyers. As such, it is unlikely HomeStreet will pursue a full sale in the near term as mark-to-market accounting on the company's securities and loan books would be "brutal" in a potential transaction, Charley McQueen,
HomeStreet reported an accumulated other comprehensive income loss, which captures changes in the value of available-for-sale securities, of $100.77 million in the quarter. The loan marks would be even more painful for a potential buyer, sources said.
HomeStreet would likely have to sell at a discount, but the low-yielding loan portfolio could require too large a discount for a potential buyer to afford, McQueen said.
An asset sale is unlikely as well because a buyer would either need to have a lot of capital on hand or raise some to absorb the losses, Piper Sandler's Clark said.
"You've got to absorb all these marks," Clark said. "Mostly loan marks, but also some security marks and you have a company that's not very profitable."
The company's performance is also a headwind to a potential sale, industry experts said.
HomeStreet's performance lags its peers headquartered in Washington. Among the eight publicly traded banks with less than $10 billion in assets that are headquartered in Washington, HomeStreet had the lowest return on average assets, lowest net interest margin, the highest loan-to-deposit ratio and the highest efficiency ratio as of June 30, according to S&P Global Market Intelligence data.
The company's net interest margin dipped to 1.96% in the second quarter as it faced funding pressures, which would give buyers pause, according to McQueen.
"I wouldn't want to buy it myself," McQueen said. "People are worried that they're going to see cost of funds really start to crush them."
Moreover, HomeStreet's stock price is currently trading at 0.35x tangible book value. However, that is an improvement from April and May when its stock price was the worst-performing US bank stock in both months. Its stock price has rebounded since then, closing at $9.71 on Aug. 14, up from $5.41 on May 31.
HomeStreet could find riches in its niches
One way HomeStreet could get out of its performance predicament would be selling its DUS license, Clark said. Proceeds from such a sale could help the company restructure part of its balance sheet and address its cost of funds problem.
However, the company has expressed no interest in such a sale, including as recently as two weeks ago.
HomeStreet previously rejected an offer from Dwight Capital LLC to purchase the license for $60 million in 2019. Moreover, on the company's July 31 second-quarter earnings call, President and CEO Mark Mason dismissed the possibility of a DUS license sale, calling it a "very integrated part of our multifamily business" and citing a lack of attractive offers in the past.
"The value they placed on that asset of that business was typically only slightly greater than the value of the servicing, which does not make for an attractive transaction to consider," Mason said during the call.
Multifamily lending is a central part of HomeStreet's business model, accounting for more than half of the company's loan composition, according to S&P Global Market Intelligence data. Multifamily loans made up $3.97 billion of its total $7.44 billion portfolio at the end of the second quarter.
But HomeStreet might have a change of heart after recent pressure from an activist investor. In a letter to shareholders, Chuck Griege, managing director of the investor group Blue Lion Capital, which owns about 2% of HomeStreet's stock, called for an immediate sale of the DUS license.
That pressure could spur "an active bidding process for the license, and that will create price discovery," Janney Montgomery Scott analyst Tim Coffey said in an interview.
Piper Sandler's Clark estimated the license could be worth as much as $100 million due to its scarcity value.
There are only 25 DUS licenses in the country and only 10 banks in the country have one, according to the Fannie Mae website. With just $9.5 billion in total assets, HomeStreet is the second-smallest bank with a DUS license.
Still, questions remain as to who would be interested in buying it and whether HomeStreet could sell it separately without a whole bank sale, Clark said.
It is likely that larger banks or private equity firms without a DUS license could make better use of one and therefore be interested in buying HomeStreet's license, Janney's Coffey said. Some of the largest banks in the country could come calling if HomeStreet were to pursue a sale of its DUS license, both Coffey and Clark said.
"I don't think there's any size limitation in terms of who could be a buyer," Clark said. "It's something that could be very useful to someone that doesn't have one and participates in multifamily."
In the letter to shareholders, Griege wrote that he believes Bank of America Corp., Goldman Sachs Group Inc., Morgan Stanley, U.S. Bancorp, Truist Financial Corp., Citizens Financial Group Inc., First Citizens BancShares Inc., Fifth Third Bancorp, Huntington Bancshares Inc. and New York Community Bancorp Inc. "would very much like to own a license."
Selling the license could ensure the viability of the bank, Griege added.
Piper Sandler's Clark agrees that HomeStreet should consider selling the DUS license because it could be the best way out of the current rate environment, and the proceeds would allow the company to restructure part of its balance sheet. Otherwise, HomeStreet will be highly dependent on rate cuts from the Federal Reserve, he added.
"Without lower rates, you've got to consider the DUS license," Clark said.