Analysis

Bank Hapoalim’s Choice: Bad, Worse or Worst

Israel’s biggest bank has to sell its credit unit, but it will be hard-pressed to match the rich valuation that rival Leumi got for Leumi Card this week

File photo: A man enters the main branch of Bank Hapoalim, Israel's biggest bank, in Tel Aviv, Israel July 18, 2016.
\ Amir Cohen/ REUTERS

On Wednesday, it will have been two years since Arik Pinto took over as CEO of Bank Hapoalim, Israel’s biggest lender and he has yet to make his mark on the bank with a major deal that would add to its bottom line.

To his misfortune, Pinto has had to devote much of his time to putting out fires left by his predecessor Zion Kenan, most notably the ongoing investigation by the United States into Hapoalim’s alleged assistance in helping clients evade taxes. The bank has already set aside $350 million in expectation of future penalties, but the probe is dragging on and the final cost will almost certainly be more than that.

Selling Isracard Possible scenarios

Selling Isracard, Hapoalim’s 98.2%-owned credit card unit, could be Pinto’s great achievement and has until 2012 to compete under the terms of the Strum law. But until now, Hapoalim has managed the sales process lackadaisically and over the weekend its No. 2 rival, Bank Leumi, set a new and very high benchmark for Pinto to match.

Leumi CEO Rakefet Russak-Aminoach, which like Hapoalim must sell its credit unit under the Strum law, reached a deal over the weekend with the U.S. private equity Warburg Pincus to sell Leumi Card at a rich 2.5 billion shekels ($680 million).

The deal values Leumi Card at 30% more than its shareholders’ equity. More than that, the bank stands to get as much as 273 million shekels more in milestone payments over the next six years.

A valuation like that would make Isracard, which controls half the credit market, worth 4 billion shekels. Pinto can only dream of getting that kind of price. His options are limited, but Alon Glazer, banking analyst at Leader Capital Markets, said one of them shouldn’t be too play for time.

“We believe that Hapoalim shouldn’t delay divesting Isracard,” he said. “While the bank could enjoy another year of profits and hope that more bidders will emerge to compete on the price, there’s the risk that market conditions change.”

Unlike Hapoalim, Leumi adopted a clear strategy and put it to work immediately after the Knesset passed the Strum law. Russak-Aminoach retained Goldman Sachs to manage the sale, determined that it would sell Leumi Card to a strategic investor began meeting with potential buyers.

She also understood that preserving a strong working relationship with Leumi Card after it’s spun off was critical. The results were not only that Leumi Card drew interest from 17 Israeli and overseas buyers – and three the lasted to the final stretch – the offers were all generous.

The Warburg deal not only awarded a high valuation to Leumi Card but includes incentives for the bank to retain a close operating partnership with the credit card company, including an option of the bank’s investment arm, Leumi Partners, to buy back a 20% stake.

Hapoalim also set up a team to manage the sale and retain Citi as its investment bank, but Hapoalim sent a mixed message to potential buyers that it was also seriously considering selling Isacard through an initial public offering on the Tel Aviv Stock Exchange. Last month, it even filed a draft prospectus.

The result is that to date the only potential buyer to emerge is a partnership between the U.S. private equity funds Advent International and Bain Capital.

They are now conducting due diligence, but they are unlikely to offer a very high price for Isracard. They have no competition to worry about and Isracard must spend hundreds of millions of shekels upgrading its computer systems. Even the two groups that lost out to Warburg in the competition for Leumi Card – the U.S. fund Centerbridge and Israeli cellphone company Partner Communications – aren’t likely to give Isracard a serious look.

Pinto’s second option is an IPO. The advantage of that is now that Leumi Card has been sold, Isracrad will have no competition for the attention and the money of the TASE’s big institutional investors. On the other hand, they won’t pay a control premium and Hapoalim won’t get a valuation anywhere close to what Leumi got for Leumi Card.

The third option is to spin of Isracard as a stock dividend to Hapoalim shareholders. The big drawback is that the bank won’t be able to value Isracard at more than its shareholders’ equity and would record no gain from the sale (versus the 234 million shekels Leumi will be getting).

Also, for Shari Arison, Hapoalim’s controlling shareholder, a stock dividend would be the worst alternative. She would be entitled to 20% of Isracard shares but would be required under the Strum law to sell it immediately. If she failed to make a profit on the sale, she would have to share it with her fellow shareholders.

Glazer’s conclusion is that Pinto at the end of the day as only one option. “If Hapoalim finds ithat it can’t successful reach a deal [with a strategic investor] and has to choose between an IPO and a stock dividend, the result will be worse than selling at a lower prices that we saw for Leumi Card.”