John R. Koelmel has learned some valuable lessons about the stock market in recent months, but the process hasn't been much fun for the banker, or his fellow shareholders.
Koelmel, CEO of First Niagara Financial Group, has seen the bank's stock languish for years, unrecognized by investors despite the bank's performance.
But he thought Wall Street would have rewarded the Buffalo bank last year for its initiative, profitability and growth.
After all, in the past 12 months the bank completed its third major expansion deal in as many years, unveiled a fourth blockbuster purchase of 195 HSBC Bank USA branches, and raised $1 billion in new capital.
Instead, he said, the stock "has gotten kicked around." It's been hammered since early August when the bank pursued a different path than its peers, at a time when Wall Street was running away from banks because of broader economic troubles.
"Banks have been rewarded for sitting on the sidelines, playing it safe, being conservative," he said. "As a company that continued to play offense, we've been tossed in the penalty box."
Through all of 2011, First Niagara's stock fell 39 percent, with most of the decline coming after Aug. 5. That compares to declines of over 23 percent for the banking industry overall, as measured by two standard indices. And the bank's shares are still down 31 percent from early 2011, compared to a 14.5 percent drop for the industry.
Even worse, it hit a nearly 10-year low of $8.24 in late November.
"They've certainly been through some tough times," said Joseph Fenech, a bank analyst at Sandler O'Neill & Partners LP, who has a "buy" rating on the stock. "It was kind of a perfect storm of events and a lot of that was out of their control."
After watching the stock fall harder and faster than many other banks, Koelmel and his executive team have been left holding the bag and playing catch-up, trying to understand what happened and what to do differently.
"Yeah, there's some lessons learned," he said. "No matter how strong your story, no matter how good that next piece of the puzzle fits, if you're trying to put it together at the wrong time, you need to be better prepared for the type of reaction that we've gotten."
Meanwhile, frustrated and even disgruntled existing shareholders have seen their own holdings weakened and their dividend cut in half in December. So Koelmel is scrambling to reassure them.
"We're absolutely concerned," Koelmel said. "We're here to serve shareholders' interests. We're here to create shareholder value. I'm a shareholder."
Local shareholders may be more tolerant. Betty Krist, treasurer of the Buffalo Area University Women's Investment Club, which has been a stockholder since 1998 and owns 117 shares, said she is "concerned" about the HSBC deal.
But she said the club isn't worried about the bank's performance or management, noting that "the whole banking industry has been enormously down."
"We're sort of lukewarm about making a move because the whole banking segment of the economy is just doing lousy," she said. "We are waiting to see what happens with HSBC."
Other banks, too
The dilemma at First Niagara illustrates the challenges banks and other public companies face when making big moves in the midst of a global economy and tumultuous market. And it shows how little control they really have at such times.
"It's been somewhat of a challenging time for management to deal with the stock pressures from this transaction," said Damon DelMonte, a bank analyst at Keefe Bruyette & Woods. "A lot of it was out of their hands."
First Niagara has struggled for 10 years with a lackluster price that -- except for an unusual one-day spike to $18.90 in September 2008 -- has never peaked much above $16 per share in 14 years as a stock.
Indeed, after a big run from its 1998 initial offering through the summer of 2003, it's hovered between $12 and $16. And it's down 5 percent since the end of 2002 -- which is better than a 40 percent drop for all banks, but pales next to a 55 percent gain for the broader S&P 500.
The banking industry has been battered by Wall Street for several years, and 2011 ranked among the worst for bank stocks, particularly after the summer crises surrounding the U.S. debt limit and worries about European government defaults. Those issues, together with continued record low interest rates, sent investors fleeing from banks. As a result, banks are down nearly 15 percent since January 2011.
"This has been an ugly year for banks," Koelmel said. "We're all enduring a period of incremental pain here that even under the best of circumstances would have seen us ride the curve down 20 percent."
Compounding the general nervousness of the market, First Niagara on Aug. 1 announced it was buying HSBC's upstate branch network for $1 billion.
It was a blockbuster deal that would catapult First Niagara into the No. 1 market share across the upstate metropolitan areas, nearly doubling its branch network. And it was expected to add to earnings immediately. So Koelmel expected it would generate a buzz in the stock.
But the crisis over the U.S. debt ceiling hit the next day, causing stocks in general to tumble. A week later, on Aug. 9, the Fed announced it would keep interest rates low for at least two more years. That's intended to spur borrowing and spending by consumers and businesses to grow the economy, but it puts a severe crimp in bank profit margins. In two weeks, bank stocks plunged 20 percent.
"A lot of this at the end of the day came to unfortunate timing," Fenech said. "Investors wanted no part of bank stocks."
Making matters worse, the complex deal had several moving parts that weren't finalized at the start. First, the bank knew that approval by the U.S. Justice Department would be contingent on divesting branches and deposits in the Buffalo area. Second, it knew it would sell other branches and deposits that it didn't want. And it would need to raise $1 billion in extra capital.
Wall Street doesn't like uncertainty, and Koelmel couldn't give definite answers. However, executives said they expected to give more information by the time First Niagara reported third-quarter earnings.
Instead, the federal antitrust review was delayed. So when the bank reported earnings Oct. 20, three months after unveiling the deal, it still didn't know for certain what it would have to divest. It also said it wouldn't proceed with other sales until the divestitures were identified. And it hadn't yet disclosed how it would raise capital.
"The pent-up demand and frustrations were clearly there," Koelmel said. "Investors were expecting something from us that we couldn't provide."
At the same time, Koelmel was very candid with investors and analysts on the earnings conference call about the challenging business climate for banks, particularly the Fed's policy with low interest rates as well as the increased regulatory scrutiny and burden. Together, they were squeezing profits for all banks, including First Niagara.
"We chose to be very transparent, as we do, about the realities of doing business in this environment," Koelmel said. "As somebody said to me internally, it sucks to be right."
And since stocks had fallen so much since August, investors felt the cost of raising capital would be much higher than originally expected, and the benefits lower. So they felt it was no longer financially attractive or in their interests.
"People just kind of soured on the deal," bank analyst DelMonte said. "Investors were turned off."
That's when investors really turned on the bank, sending its shares down another 13 percent in just three days to its lowest point since 2002, even as the rest of the market was climbing.
"It's a three-day window where bank stocks moved up and we moved down," Koelmel said.
Since then, First Niagara has been able to provide answers. First, on Nov. 10, the Justice Department approved the HSBC deal, but required that First Niagara sell 26 branches in the Buffalo area, with $1.64 billion in deposits. The bank said it would begin marketing those and other branches it wanted to sell elsewhere, and expected to have deals in place by the end of the year.
A month later, it raised $1.1 billion in capital by selling $450 million in common stock, $250 million in preferred stock and $300 million in debt. But it also said it would slash its quarterly dividend in half, to eight cents.
The three offerings were "oversubscribed," which means there was more investor demand than the bank could meet, even in what Koelmel called a "prohibitive" environment.
But part of the bank's shareholder base turned over. The day after the offering, 35 million shares traded hands -- more than 10 percent of outstanding shares. Shareholders who liked the higher dividend got out, while new investors -- who see even the current yield as better than most -- got in.
Still, Koelmel is convinced that the dividend cut was the right move for the long haul. And he argues that the bank's dividend still "stands very, very tall against any measure of peers."
Finally, in January, the bank said it would sell a total of 64 branches, with $3.8 billion in deposits and $713 million in loans, to KeyCorp, Community Bank System and Financial Institutions. And in February, it said it would shut 35 overlapping branches, and set May 18 to complete the HSBC deal.
As a result, the bank's stock is up nearly 10 percent since the start of the year, although it's still below $10 per share. The industry is up nearly 13 percent, as measured by the KBW Bank Index.
"They've righted the ship since. They're sitting in a position where they should be able to close the deal," Fenech said.
Koelmel is convinced the HSBC deal will pay off. "When you look at this compared to other transactions we've done, it stacks up very, very, very well," he said. "We're a better business today than at any time in the history of this organization, and we'll be an even better business with the benefit of the HSBC transaction."