August 19, 2014

Bank M&A activity heats up amid myriad challenges

Bank mergers and acquisitions have surged lately, as the industry struggles to overcome numerous headwinds including a challenging compliance environment, higher capital requirements and the proliferation of alternative lending.

M&A spikes at smaller banks
While regulatory scrutiny has limited these opportunities for larger institutions, SNL Financial data reported on by The Financial Times showed M&A activity rising sharply at smaller banks in the second quarter. During this period, mergers where buyers had less than $20 billion in assets and sellers' assets were below $10 billion surged to $2.7 billion, a 48 percent jump from the prior year.

Additional data from Raymond James showed that between 2009 and the second quarter of 2014, 89 percent of the nearly 1,200 bank acquisitions announced involved organizations with less than $1 billion in assets, according to the news source.

Industry consolidation could continue, says expert
This trend of robust M&A activity could easily continue as the banking industry faces myriad pressures, industry expert Richard Parsons wrote in a recent American Banker article. Parsons, who spent 31 years at Bank of America and now speaks on the industry, emphasized that many firms in this sector may struggle to deliver adequate return on equity.

During the first quarter of this year, banks generated a 7.95 percent ROE, he noted. As a result, these organizations could soon face shareholder demands to bolster this key measure of success. Higher capital requirements are a major contributor to these lower returns, but simply knowing that banks are meeting current regulations will not satisfy investors.

Parsons stated that banks have put substantial due diligence into bolstering the quality of their portfolios, and will therefore not be able to increase the revenue they generate with the loans they hold. While Parsons pointed out the downside of this situation, another expert, Steven Fusco, chief financial officer of New Jersey-based Sussex Bank, focused on the upside when speaking with The Financial Times.

Consolidation: The new normal
"A lot of people were on the sidelines because of what was happening to balance sheets," Fusco told the news source. "The credit situation has stabilized and banks are a lot more confident about what they're wanting to buy."

There are certainly drawbacks to bolstering the size of one's organization. When an institution reaches $10 billion in assets, it must cope with the scrutiny of the Consumer Financial Protection Bureau. After hitting $50 billion, Federal Reserve requirements now apply.

Even so, many banks are compelled by the benefits that come along with consolidation, David Rainer, chief executive of California United Bank, which is acquiring 1st Enterprise Bank, told the media outlet.

Banks looking to sell must first attain a clean balance sheet, which might obligate them to take part in a nonperforming loan sale. While banks in a growth mode will likely focus on buying institutions that are deposit-rich, and must ensure their target has a strong loan portfolio to maintain income, low-performing banks generally need to sell low-interest rate loans and add higher yielding loans to their books.

Financial institutions looking to take part in loan sales might consider contacting Garnet Capital Advisors, which is involved in all types of loan sales.