KBRA Affirms Ratings for SouthState Corporation Following Acquisition Announcement; Outlook for Independent Bank Group, Inc. Revised to Positive

21 May 2024   |   New York


KBRA affirms the senior unsecured debt rating of BBB+, the subordinated debt rating of BBB, and the short-term debt rating of K2 for Winter Haven, Florida-based SouthState Corporation (NYSE: SSB) following the recently proposed merger announcement with Independent Bank Group, Inc. (NASDAQ: IBTX) (“Independent Bank Group”). In addition, KBRA affirms the deposit and senior unsecured debt ratings of A-, the subordinated debt rating of BBB+, and the short-term deposit and debt ratings of K2 for its subsidiary, SouthState Bank, National Association. The Outlook for all long-term ratings is Positive. KBRA also affirms the senior unsecured debt rating of BBB+, the subordinated debt rating of BBB, and the short-term debt rating of K2 for McKinney, Texas-based Independent Bank Group, Inc. In addition, KBRA affirms the deposit and senior unsecured debt ratings of A-, the subordinated debt rating of BBB+, and the short-term deposit and debt ratings of K2 for the bank subsidiary, Independent Bank. The Outlook for all long-term ratings is revised to Positive from Negative.

Key Credit Considerations

On May 20, 2024, SouthState Corporation and Independent Bank Group. Inc. announced that they had entered into a definitive agreement under which SouthState will acquire Independent Bank Group, Inc. in an all-stock transaction that is expected to close in 1Q25. The pending deal will create a pro forma institution with $65 billion of assets, $55 billion of deposits, and $48 billion of loans. With respect to deal terms, the transaction is valued at approximately $2 billion, or 1.48x P/TBV (a 10% premium to IBTX). Pro forma ownership is estimated to be comprised of roughly 75% SSB shareholders vs. 25% IBTX and the combined company’s board will reflect a similar composition. SSB is recognizing a 1.42% ($207 million) gross loan credit mark on IBTX’s loan portfolio – a conservative mark, in our view, given IBTX’s 1Q24 LLR of 1.02%. Additionally, the deal includes a 2.6% ($383 million) interest rate mark on IBTX’s loan book.

The combined company will operate some 340+ branch locations principally centered across the Southern United States, as well as a smaller presence in Colorado. The proposed transaction marks SSB’s physical expansion westward, with the company acquiring IBTX’s operations in Texas (primarily in the Dallas/Fort Worth, Houston, and recently added San Antonio markets) and Colorado. Upon completion, the company’s footprint will span eight states including, in order of total deposits, Florida, Texas, South Carolina, Georgia, Colorado, North Carolina, Alabama, and Virginia. Importantly, the proposed acquisition maintains SSB’s presence focused on high growth markets and in states that have experienced strong levels of net migration since the pandemic.

KBRA views the proposed transaction favorably for both SSB and IBTX. From SSB’s perspective, the company is acquiring a relatively scaled institution (~$19 billion of assets) and gaining a foothold in one of the most demographically attractive states in the U.S. at a reasonable price. Furthermore, we believe IBTX’s loan portfolio is a solid one, noting the company’s credit history is pristine and includes a peak NCO rate of just 0.31% during the global financial crisis. Elsewhere, SSB’s earnings power is expected to be enhanced (assuming a successful integration and the full achievement of anticipated cost saves), with the company modeling a 1.3% 2025 ROA (based on consensus estimates) and an efficiency ratio of sub-50%.

Regarding the benefits to IBTX, the company’s somewhat narrow existing geographical footprint (80% of its deposits are in Texas) will become meaningfully more diversified with the inclusion of SSB’s presence in the Southeastern U.S. However, perhaps more importantly, IBTX’s more expensive funding profile, which is comprised mainly of interest rate sensitive commercial depositors and has weighed on the company’s earnings and NIM in recent times, will become materially more cost effective when combined with SSB’s granular, low-cost deposit base. As a reminder, KBRA views SSB’s deposit franchise – one that features a greater than peer amount of consumer/retail deposits (~41% of total) and noninterest-bearing balances (29%) – as one of the strongest in our rated universe both in terms of composition and cost. IBTX's earnings, which are generally spread-reliant, would also benefit from SSB’s relatively durable, broad-based noninterest income sources that includes deposit service charges, correspondent banking and capital markets, trust and investment services, and mortgage banking. IBTX’s liquidity position, at least measured by the loan-to-deposit ratio, is also projected to improve at deal close, with a pro forma metric of 89% for the combined institution comparing to 103% for IBTX as of 1Q24.

A less favorable characteristic of the proposed deal, in our view, includes a not insignificant expected decline in SSB’s CET1 capital ratio (forecasted pro forma ratio of 10.4% at deal close vs. 12.0% as of 1Q24). Historically, KBRA has viewed SSB’s capital management positively, recognizing that core capital metrics have typically trended towards the higher end of peer ranges. In this sense, the expected 160 bp decline in SSB’s CET1 ratio marks a deviation from where the metric has trended historically. In KBRA’s opinion, crucial to further positive momentum in SSB’s ratings is a rebuild of CET1 capital post-deal close towards 11%. Additionally, while the combined entity’s loan portfolio will be more heavily comprised of investor CRE than SSB’s legacy book has reflected historically, as mentioned, we believe IBTX to be solid stewards of credit, and add that its nonowner-occupied CRE portfolio includes a WALTV of 57% and an average DSCR of 1.7x. While KBRA believes there is an inherent level of integration risk involved with any bank M&A transaction, such risk is somewhat mitigated by SSB’s demonstrated track record as a successful acquirer. Management also mentioned that it held discussions with the OCC and the Federal Reserve regarding the proposed transaction prior to entering into an LOI, and we note that more stringent regulatory standards from the OCC for banks $50+ billion in assets will not come into effect for SSB until 2H26, giving the company adequate time to prepare its risk systems and policies.

Rating Sensitivities

The revision of IBTX’s Outlook to Positive from Negative assumes that the transaction receives the required regulatory, shareholder, and other approvals to close in a timely manner, and recognizes that IBTX will be merging with and into a larger and more diversified institution. Conversely, if the transaction were to be terminated, IBTX’s ratings would likely be maintained at current levels with a Negative Outlook assuming the transaction did not present any undue burden on overall financial performance. The affirmation of SSB’s ratings at their current levels and maintenance of the Positive Outlook reflects our continued favorable opinion of the company’s earnings performance and credit quality. Most important to further positive ratings development at SSB is a smooth closing and integration of its proposed acquisition of IBTX, and subsequent to closing, a rebuild of CET1 capital towards levels historically reflected by the company. Should the transaction be terminated, or if SSB does not rebuild capital metrics higher post-close, we would likely revisit the company’s Positive Outlook. Degradation in the company’s earnings performance or credit quality would also be viewed negatively.

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A description of all substantially material sources that were used to prepare the credit rating and information on the methodology(ies) (inclusive of any material models and sensitivity analyses of the relevant key rating assumptions, as applicable) used in determining the credit rating is available in the Information Disclosure Form(s) located here.

Information on the meaning of each rating category can be located here.

Further disclosures relating to this rating action are available in the Information Disclosure Form(s) referenced above. Additional information regarding KBRA policies, methodologies, rating scales and disclosures are available at www.kbra.com.

About KBRA

Kroll Bond Rating Agency, LLC (KBRA) is a full-service credit rating agency registered with the U.S. Securities and Exchange Commission as an NRSRO. Kroll Bond Rating Agency Europe Limited is registered as a CRA with the European Securities and Markets Authority. Kroll Bond Rating Agency UK Limited is registered as a CRA with the UK Financial Conduct Authority. In addition, KBRA is designated as a designated rating organization by the Ontario Securities Commission for issuers of asset-backed securities to file a short form prospectus or shelf prospectus. KBRA is also recognized by the National Association of Insurance Commissioners as a Credit Rating Provider.

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