Warburg Pincus seeks to fill regional bank vacuum

As some banks are dropping out of the California market, Warburg Pincus is “closing the vacuum” and pursuing a number of opportunities alongside its co-investor Centerbridge Partners through the merger of Banc of California and PacWest Bancorp, Todd Schell, principal at Warburg, told PE Hub.

The pair of New York-based private equity firms unveiled in July a $400 million investment in a merger that will see new operations under the Banc of California name and branding at the close of the transaction, which is expected in late 2023 or early 2024.

The combined company is expected to have approximately $36.1 billion in assets, $25.3 billion in total loans, $30.5 billion in total deposits and more than 70 branches in California.

“Southern California is an attractive banking market but has historically been very competitive,” said Schell who will be joining the board. “Over the last six-to-12 months, competition has either left or become distracted, so there is a bit of a power vacuum there.”

Some regional banks are reeling under the pressure of the tight macroeconomic environment, coupled with high interest rates.

Silicon Valley Bank, First Republic and Signature Bank are some of the banks that have faced challenges. Others, such as Union Bank or Bank of the West, were bought by international competitors.

What makes the space appealing to Warburg is the unique characteristics that each bank brings to the table, Schell said.

In the wake of the SVB demise, PacWest saw a portion of its venture business run off the same way as SVB, which was a third of the business, and the bank had to replace that with expensive borrowings from the government.

PacWest’s stock tumbled at the time. Although Schell said this was viewed as a “death sentence” by some, he believed the reaction was unfair.

“We viewed this as an opportunity to invest in a great franchise that was treated quite poorly in the public markets.” He underlined Warburg’s experience in the sector. “Our bank diligence playbook is extensive – we pull hundreds of loan files, re-underwrite entire portfolios, stress asset quality and liquidity across various macro environments… what we found here was a fundamentally strong bank that has been substantially de-risked.”

The Banc of California, according to Schell, is a well-run institution with an “excellent operator” in Jared Wolff, the CEO who will retain the same role at the combined company. “His bank has pristine asset quality and very strong customer relationships with multiple touch points across business lines.”

Among Wolff’s qualities, Schell said: “He is not afraid to say no to monoline business.”

The Warburg principal said one mistake regional banks have made is not saying ‘no’ to some businesses that were bad.

For the joint business, Schell added that there is an opportunity to build niches. “We like banks that operate in niches,” he said. “Niches require differentiated underwriting knowhow and a unique distribution strategy but can yield highly attractive risk-adjusted returns if done right.”

In developing niches, there is room for the investment to grow a network and reputation as a primary provider of financing in the businesses that they support. This will also be an opportunity to develop expertise that is useful in decision making, especially in choosing businesses to work with.

PacWest has expertise in several niches, such as HOA, portfolio lending, equipment lending and leasing, while Banc of California’s niche strengths involve healthcare, education, entertainment and warehouse lending.

Warburg is a strong believer in deposit franchises and stable funding, Schell said, adding that, in this investment, they are seeking to create an “excellent deposit franchise.”

The merger also seeks to benefit from efficiency of operations. “We look for management teams who prioritize profitable growth and align interests across their organizations.”

With a combined balance sheet, the bank is going to have strong capital liquidity position and ready to “play offense,” Schell said. “Having the firepower of a larger balance sheet gives Banc of California the ability to expand and deepen its customer relationships, while still being careful around having a diversified business.”

But the challenging macroeconomic environment that is troubling to some regional banks persists. Schell expressed confidence in the Banc of California’s leadership to navigate the situation.

“We are backing an excellent operator who has a healthy respect for various types of risk that a bank takes, interest rate risk being one of those,” he said. “That’s the nature of the banking business model, and good operators will prudently manage that risk.”

In its decades-long investment in the banking sector, Warburg said it has invested over $3.5 billion in 21 regulated banking institutions around the world, including in TIAA, Dime Bancorp, Mellon Bank, Webster Financial, Sterling Financial and National Penn Bancshares.