Who is Going to Take a Ride on Pacific Capital?

Pacific Capital Bancorp (PCBC) is about to face the music.  In the next several days, significant events may occur that shape the future of PCBC as a going concern.

Shareholders will vote on two questions at the bank’s meeting tomorrow.  First, they will have the chance to weigh in on these questions:

• raise the number of authorized shares from 100 million to 500 million.
• effect a stock split of at least three-to-one and as much as ten-to-one, with a reduction in shares by a complementary proportion

The reverse stock split might be nothing more than window dressing.  Some hold that a share price below $10 scares off institutional buyers.  Some mutual fund managers cannot buy shares in a company with a stock price below $10.  That said, most professional asset managers are smart enough to know that a company is not worth buying for that reason alone.  A reverse split is a gamble.  Indeed, one study concluded that the average three-year return for a company, after a reverse split, was  minus 33 percent.

The first question should worry shareholders, who fill face incredible dilution on shares that already trading below $2 per share.  If all of the authorized shares are issued, then it stands to reason that shares of PCBC will be worth less than 40 cents.  The reverse stock-split will at least ward off the chance that the SEC would step in with delisting.

The Logic of this Deal

Why is PCBC proposing massive dilution at a time when its shareholders are already getting trounced?

PCBC needs to raise its tier one capital.  At the end of the last quarter, the bank’s ratio fell to just 5.7 percent.  CEO George Leis attributes that fall, in part, to declines in California’s commercial real estate market.  In today’s edition of the Pacific Coast Business Times, reporter Stephen Nellis produces this commentary from Leis:

“Nobody imagined the magnified nature of the real estate decline.  We had a loan in Monterey on prime property that was $21 million, and it was appraised at $1.2 million. We had to write it all the way down because there were no comps, no comparable sales.”

The FDIC wants Pacific Capital to get its Tier One ratio up to 9 percent.  Their deadline: Wednesday. It is not a coincidence that shareholders are voting on new equity today.  It is a shot in the dark, a stab at survival.  Of course, that equity raise still needs investors who are willing to throw capital at a bank that is hemorraging money, with tons of loans on its books in one of the most depressed real estate markets in the country.

Shareholders won’t have anyone to blame if they invest in PCBC now or in the future.  The evidence is out there.  More than a few shareholders are upset.  True, several lawsuits have emerged that suggest that the BOD failed to disclose the extent of losses on their books last spring.  That said, the SEC doesn’t have grounds to step in to protect new investors.  The FDIC, with its mission to protect deposits, might feel differently.  PCBC has approximately $4.6 billion in deposits in California.  It is the leading deposit holder in the Santa Barbara, California MSA, with more than $2.2 billion.

As if it could not get any worse, even the rules of accounting may punish the prospects of this bank.  Analyst Julianna Balicka (Keefe Bruyette and Woods) says that the bank could lose a tax shelter that covers some of its losses.  That outcome, if realized, would hit the books soon.  Wednesday, in fact!