JPMorgan Acquires First Republic: The Strong Gets Stronger

Summary:

• JPMorgan acquires majority stake in First Republic Bank, boosting its position within the industry and expanding its US wealth strategy.
• The bank’s strong performance and risk management capabilities demonstrate its ability to navigate turbulent market conditions and maintain profitability.
• JPMorgan’s attractive valuation compared to peers, combined with its premium status within the industry, make it an appealing investment opportunity.

JPMorgan’s (NYSE:JPM) recent acquisition of a majority stake in First Republic Bank signals a strategic move that stands to benefit both the bank and the wider financial industry. In this article, we will analyze the implications of this acquisition, JPMorgan’s history of resilience and risk management, and the bank’s financial performance and valuation. We argue that this acquisition, coupled with JPMorgan’s strong fundamentals, make it an attractive investment opportunity for those seeking exposure to the financial sector.

Analysis of First Republic Acquisition

Over the weekend, JPMorgan emerged victorious in the competitive process, acquiring a substantial majority of First Republic Bank’s assets, assuming its deposits, and taking on certain liabilities from the FDIC. Importantly, this transaction does not involve preferred stock or corporate debt. The acquisition is expected to be modestly accretive to JPMorgan’s earnings per share (EPS) and projected to generate over $500 million of net income annually. However, it is crucial to maintain perspective, as this figure constitutes merely 1.2% of the $42 billion earned by the banking giant in the last twelve months.

The acquisition of First Republic Bank is undoubtedly a credit positive development for the large cap bank group, especially as investors have been apprehensive about the possibility of large banks having to incur losses against their $30 billion in deposits if First Republic were to be placed under FDIC receivership. JPMorgan will assume all $92 billion of the remaining deposits at First Republic, including the $30 billion in large bank deposits, which will be fully repaid post-consolidation. This news is expected to bolster the industry’s outlook.

During a recent M&A call, JPMorgan’s CEO and CFO emphasized that the bank’s fortress balance sheet enables investment across the cycle. They asserted that the First Republic acquisition is now closed and that the business will operate normally. The $500 million earnings accretion is considered a conservative estimate, and the CEO believes that the banking system is stable and the crisis is largely resolved. Although potential issues may arise down the road, the acquisition is regarded as a positive development.

JPMorgan has demonstrated exceptional resilience and risk management during the financial crisis, outperforming many of its peers. The bank’s relatively low exposure to collateralized debt obligations (CDOs) and overall credit costs contributed to its strong standing during the crisis. Notably, the bank’s largest exposures were the result of acquiring firms like Bear Stearns and Washington Mutual, both of which were in turmoil during the crisis.

These acquisitions led to multiple legal settlements and charges, amounting to as much as $13 billion in 2013. Despite these challenges, JPMorgan remained profitable throughout the period and only fell below its cost of equity on a tangible return basis for a single year. This highlights the bank’s exceptional ability to weather financial storms and maintain profitability.

We find the bank’s history of above-average underwriting and risk-taking ability highly encouraging and believe that its organizational culture has likely remained strong or even improved in the wake of the significant reforms implemented across the industry since the crisis. JPMorgan’s proven capacity to navigate turbulent market conditions and maintain a robust balance sheet instills confidence in its ability to continue thriving in the future. The bank’s demonstrated risk management capabilities will undoubtedly be an essential asset as it integrates First Republic and pursues further growth opportunities.

Strategically, the acquisition of First Republic is a significant move for JPMorgan. While there may be some distractions during the integration process, and it remains uncertain whether most clients and advisors will stay on board, the First Republic franchise is highly complementary to JPMorgan Chase. The acquisition accelerates JPMorgan’s US wealth strategy and is well-suited for the bank’s robust balance sheet, extensive platform, integration history, brand, and management. Although the process may prove challenging, the value of the client and advisor base is considerable, and assisting the financial system and government is a commendable effort. In the long run, we believe that this acquisition will serve as a strategic advantage for JPMorgan and contribute positively to the industry as a whole.

Valuation

Note: all data in this section comes from FactSet.

JPMorgan’s earnings have experienced some volatility in recent years due to various factors, including the COVID-19 pandemic, which led to a rapid buildup of loss reserves and subsequent releases, as well as the rise of inflation, prompting interest rate hikes. Nevertheless, the bank’s earnings have demonstrated a strong growth trajectory when considering the long term. From an EPS of $6.87 in 2017, JPMorgan’s EPS increased to $12.09 in 2022 and is projected to reach $14.87 by 2025. This represents a compound annual growth rate (CAGR) of approximately 11.6% over the eight-year period.

JPMorgan’s fortress balance sheet allows the company to grow through economic cycles, providing a solid foundation for expansion. As of Q1 2023, the bank reported a Common Equity Tier 1 (CET1) capital ratio of 13.8%, giving it ample room to deploy its balance sheet for acquisitions, organic investments, share buybacks, and dividends.

In terms of valuation, JPMorgan is currently trading at 10x forward 12-month consensus EPS, which is at the lower end of its 5-year range of between 8x to 15x. This valuation is higher compared to large banks such as Bank of America (BAC), trading at 8.6x, Citigroup (C) at 7.6x, and Wells Fargo (WFC) at 8.4x. This premium valuation reflects JPMorgan’s stronger growth prospects and industry leadership position.

Taking these factors into account, we believe that JPMorgan presents a compelling investment opportunity. The bank’s impressive earnings growth, robust balance sheet, and ability to weather economic storms provide a solid foundation for future expansion.

Conclusion

JPMorgan’s acquisition of First Republic Bank represents a strategic advantage for the bank and contributes positively to the industry as a whole. JPMorgan’s proven track record of navigating economic downturns and maintaining a robust balance sheet instills confidence in its ability to thrive in the future. Additionally, the bank’s relatively attractive valuation compared to its peers, along with its premium status in the industry, make it an appealing investment option for investors. As JPMorgan continues to solidify its industry leadership and pursue growth opportunities, we believe the bank’s prospects remain bright, offering potential long-term rewards for investors.

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Analyst’s Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, and no plans to initiate any such positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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