The SFB Bancorp activist battle

I could write a novel about SFB Bancorp.  It would include all the usual characters, the entrenched bank management that's missing in action, the activist shareholder, and the legions of silent shareholders hoping for a satisfactory return.  The story has become VERY interesting, mostly because a group of value investors have taken it upon themselves to unlock value at a cheap company.

I wrote about the company in December and linked to my initial Oddball Stocks Newsletter writeup and also included an interview with the managing director at Trondheim Capital.  You can read that here.

For those of you with a tight time budget let me summarize.  This could be the story of most small community banks.

A long time ago in a rural area no one has heard of a group of people started a bank.  The bank operated mostly untouched for decades.  At some point shares began to trade, either from an IPO or a mutual conversion.  The bank likes to proclaim their record of profitability, although it's worth noting they don't differentiate between merely profitable and earning a satisfactory return.  That's probably because management has no idea what "satisfactory return" or "cost of capital" means, to them earning $1 more than $0 is considered success.

SFB Bancorp IPO'ed in the late 1990s and shares traded at almost the exact same price for the next 13 years.  The only return anyone earned besides interest was the free toasters (I'm presuming, it's that caliber of bank) given away to depositors for opening accounts.  Shares traded for ~30% of book value in 2013.  This was when Trondheim Capital discovered the bank and began the process of unlocking shareholder value.

There is a paradox at this bank, management repurchased 40% of their outstanding shares, yet they claim they don't understand how to correctly compute book value.  The company would deliberately compute book value per share based on the number of issued shares, not their outstanding shares.  And when a company re-purchases as much stock as they did a significant difference in the value is created.  The company was re-purchasing shares from shareholders and claiming shareholders got a good deal compared to "book value", the erroneously calculated value.  Does that sound like a bait and switch? It was.  And it speaks volumes to the quality of the people running the bank.

I spoke with a banker recently who made the comment that "most bankers are playing bank." Management at SFB Bancorp is clearly "playing bank."

Many community bankers like the idea of being a stalwart in the community, belonging to a country club, knowing business leaders by name and having status in a small town.  This is desirable, and it's understandable, and perfectly acceptable if the bank is private.  The CEO of SFB Bancorp is also an attorney and for all intensive purposes is 100% focused on his law practice verses the day to day operations of the bank, or even the long term bank strategy.  I tried to call him twice a little over a year ago, the first time he was unavailable due to his attorney obligations, and the second time he said he didn't have time to chat because he had a case he was preparing for.  Is this the type of person who should be running a public bank?  It's like he's moonlighting as a bank CEO.  If it's a slow week at the law practice maybe he'll think about banking a little bit.

I don't want to get into character details too much because anyone can sling mud.  And what I might find disagreeable might be acceptable to others.  But I think any and all shareholders can agree that management who cares more about their law practice rather than the bank shouldn't be employed by the bank any longer.  And management that doesn't care about shareholders earning a satisfactory return need to be replaced.  I don't know of any investment strategy where earning 0% over 13 years is considered successful.

The question you're probably wondering is "where do things stand right now?"  This is where the story gets interesting.  Trondheim Capital, Meixler Investment Management, and outside investors have amassed a position that is equal to or greater than management's own stake.  And Trondheim is pushing for two Board seats, a request that isn't unusual given their ownership position.  Suddenly bank management has been woken up from their very deep slumber, they hired an expensive DC law firm and have been stone-walling shareholders.  No one knows when the annual meeting is, what the record date for voting, and any further questions are met with sham responses.  I submitted my own proposal that the bank convert to an S-Corp, buy shareholders out at book ($40 per share) and pay out 90% of net income as dividends post conversion.  The company could do a conversion like this with cash on hand.  Their response to me was a copy and paste letter stating that I failed to meet certain bylaw requirements in how I worded my request.  This is the same transaction that North State Bank undertook last year.  I wrote about it for Seeking Alpha.

A friend of mine decided to pursue his shareholder proposal further than I did, I gave up after receiving my form letter.  My friend has found that each iteration has been met with more phony rules and requirements that are seemingly created on the fly.

Predictably the bank is sending letters to shareholders about the "out of town" activists and how they want to take over the bank.  The implication is these activists are from evil big city hedge funds looking to pillage this helpless bank.  There are two ironies with this branding.  The first is one of the funds, Meixler Investment Management, is located in rural Arizona and the fund principle is involved in an organic farm co-op project.  A rural investment fund that is working on a project to help farmers probably has more in common with SFB depositors than SFB management itself does.  The second irony is that management is willing to sell the bank and they don't need hedge funds to force a sale.  Rumors have floated around that SFB Bancorp shopped itself a few years back but the price they wanted was too high.  Management is willing to dump the bank, but only if they get to set the rules.

I've really only scratched the surface on SFB Bancorp, but if I've whetted your appetite there is a lot more reading available.  Trondheim in a very rare and unusual move has published ALL of their correspondence with the bank and bank management.  They've also provided a number of other resources on the website http://sfbkshareholders.com .  The website is a case study on small company activism.  If you've ever thought of attempting this yourself Trondheim has paved the way by making all of this information public and free.

If you are a shareholder I'd ask that you vote for Trondheim and Meixler Investment Management on your proxy.

Disclosure: Long SFBK