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The Importance and Future of Community Banking

Posted by Bobbe Sigler on Thu, Apr 24, 2014

Community Bank of Broward building web 304Community Banks have a critical role in keeping their local economies vibrant and growing by lending to creditworthy borrowers in their regions. They often respond with greater agility to lending requests than their national competitors because of their detailed knowledge of the needs of their customers and their close ties to the communities they serve. Such lending helps foster the economy by allowing businesses to buy new equipment, add workers or sign contracts for increased trade or services. Customer knowledge also gives community bankers a real-time understanding of customer demands and provides them with an opportunity to respond more aggressively to those demands – particularly in regard to the use of technology.

Dramatic changes within the community banking industry over the past 20 years are evident. According to the Federal Reserve’s definition of community banks (those with less than $10 billion in total consolidated assets), there were more than 10,000 community banks 20 years ago. At the end of 2012, however, there were fewer than 6,000 community banks. Over the same period, the percentage of total U.S. banking assets held by community banks fell from 50 percent to 17 percent. As stated by former Fed Chairman, Ben Bernanke, as a proponent of the traditional community bank model, “There is a real place for the customization and flexibility that community banks can exercise to meet the needs of local communities and small business customers.”

At the inaugural Federal Reserve System and Conference of State Bank Supervisors (CSBS) Community Bank Research and Policy Conference held in October, 2013, the key note was the importance of Community Banks in the financial system and in our economy. As reiterated by Federal Reserve Bank of St. Louis spokesperson, Julie L. Stackhouse, Senior Vice President, Banking Supervision, “The community banking industry has experienced challenges and ongoing consolidation; however, there is a future for community banks that have strong management teams, adhere to solid banking fundamentals, and leverage their “social capital”, or community relationships, to tailor products and services that meet the needs of customers in their local markets.”

Chartering a new Community Bank provides the opportunity for local investors to profit from high-quality services offered by a Community Bank, and strengthens the local economy through loans to customers. There is predictability to the ebb and flow of Community Bank charter activity. Every seven to ten years, since World War II, there has been a resurgence of new bank charter submissions and approvals. This is typically followed by a period during which mergers and acquisitions although leaving a gap in the community banking industry are often favorable to the bank’s shareholders.

Many astute and successful individuals have been involved in community banks as Organizers, Directors or Investors. Many of these banks have found their niche in the local markets and as a result, their shareholders benefited with annual returns between 8% and 12%. Well-capitalized Community Banks that are well-managed and strategically located will continue to prosper. In doing so, they can continue to be attractive investments, and lucrative ventures for the local economy.

If recent mergers and acquisitions within your community have led to inferior banking service, dissatisfaction by consumers and businesses, and a significant decline in economic development and financial leadership, the opportunity may exist in your community for a new bank that can provide quality products and services and attractive returns for your investors.

Series to continue with Minority-Owned Institutions (MOI) Program 

Topics: Federal Reserve, Bank Mergers, community banks, new community bank

Spotting Risk in Community Bank Acquisition Targets

Posted by Wendell Brock on Fri, Oct 09, 2009

In the beginning of 2009, the media was pushing the idea that this would be the year for the community bank. Many smaller banks had not weighted down their balance sheets with subprime loans, asset-backed securities and complex derivatives. In theory, they had the stability to pick up loan customers that had been turned away by larger institutions. Columbus Business First published an article entitled, "Larger competitors' retrenchment may give smaller banks opening." And Business Week said, "As big banks struggle, community banks are stepping in to offer loans and lines of credit to small business customers."

Getting in to the banking industry during a power shift from big banks to small ones would appear to be an attractive opportunity for bank executives and community leaders who wish to be bank investors. But the predictions of a few publications don't sufficiently address the risk involved in buying a bank. Bank investors need to have some framework for separating the good targets from the bad ones.

Characteristics of at-risk community banks

In a speech made last July, San Francisco Fed President Janet Yellen summarized the characteristics of at-risk community banks. She cited:

  • High concentrations of construction loans for speculative housing projects
  • Concentrations of land acquisition and development loans
  • Poor appraisal systems
  • Weak risk-monitoring systems

Looking ahead, Yellen also identified "income-producing office, warehouse, and retail commercial property" as an area of potential risk. She cited rising vacancies and poor rent dynamics, which are putting negative pressures on property values. These value declines can be particularly problematic for maturing loans that need to be refinanced. Community banks that maintain large portfolios of commercial property loans should be proactively managing these risks. Bank acquisition groups should verify that target banks are updating property appraisals, recognizing impairments early, and negotiating work-outs with borrowers when appropriate.

Tim Coffey, Research Analyst for FIG Partners, LLC, agrees that commercial real estate is the next area of risk for banks. In an interview, Coffey said,

I think the residential portion of this correction has been dealt with and recognized by bankers and market participants alike. The next shoe to drop is going to be commercial real estate. I don't think there is really any kind of argument about that. How messy it's going to be compared to the residential part remains to be seen.

Coffey's comment was included in a report by The Wall Street Transcript that also quoted commentary from other banking analysts. The consensus among them was that some community banks are still facing potentially disastrous problems ahead.

Separating the good acquisition targets from the bad ones, then, requires careful analysis of the balance sheet, loan portfolio and the bank's current risk management practices. If the bank isn't managing risk proactively, there could be unknown problems brewing within the loan portfolio. Buying a bank with known problem assets is a manageable challenge-but buying a bank with unknown problem assets is something else entirely.

Topics: Community Bank, mergers and Aquisistions, bank acquisition, Loans, organizers, Bank Mergers, bank investors, Troubled Banks, De Novo Banks, mergers

FDIC Reports Aggregate Quarterly Loss for Banking Industry

Posted by Wendell Brock on Mon, Mar 02, 2009

The FDIC’s most recent Quarterly Banking Profile (QBP) confirms the continuation of problems for the banking industry, as several key metrics showed further deterioration in the fourth quarter. These are some highlights:

•    Quarterly earnings declined, swinging industry profitability to a net loss.
•    Loan loss provisions, net charge-offs, defaults and noncurrent loan balances increased.
•    Aggregate outstanding loans and leases decreased.
•    Total deposits increased.
•    Average net interest margin generally improved for larger institutions, but declined for community banks that fund most of their assets with interest-bearing deposits.

Degradation of earnings performance

For the first time since the fourth quarter of 1990, insured commercial banks and savings institutions reported a net quarterly loss. The aggregate loss, which exceeded $26 million, was fueled by a combination of loan loss provisions, trading losses and asset write-downs. Roughly half of the aggregate loss was driven by results at only four banks. But, 32 percent of all insured institutions reported a net loss. The industry’s quarterly return on assets (ROA) was a negative 0.77 percent, the worst quarterly ROA performance since 1987.  

Full-year 2008 net income was slightly more than $16 billion, vs. $100 billion in the year earlier. The full-year ROA was a meager 0.12 percent. These figures were somewhat inflated due to the accounting entries related to failures and mergers; excluding those impacts, the industry would’ve reported a loss for the year.

Loan loss provisions, charge-offs and defaults


Credit quality continued to be problematic. The industry’s loan loss provisions for the quarter were in excess of $69 billion, or more than half of aggregate net operating revenue. Net loan and lease charge-offs were nearly $38 billion, which is more than double the amount recorded in the year-earlier period. Charge-offs for real estate loans, both construction and development loans and residential mortgages, increased more than $10 billion on a combined basis.

At year-end, the industry was strapped with $230.7 billion in noncurrent loans. This compares to $186.6 billion at the end of the third quarter. The sharp increase does not bode well for a near-term lending or housing recovery, particularly since nearly 70 percent of that increase was related to mortgage loans—residential mortgages, C&I loans, home equity loans and other loans secured by real estate.

Trading losses, asset write-downs, declining equity capital


Trading losses in the fourth quarter were large at $9.2 billion, but down from last year’s level of $11.2 billion. Charges associated with goodwill impairments and factors jumped more than $4 billion from last year, to $15.8 billion.

The disappearance of $39.4 billion in goodwill, along with a reduction in other comprehensive income, led to another consecutive reduction in total equity capital.

Total regulatory capital, however, notched an increase of 2.2 percent. At year-end, 97.6 percent of insured banks matched or beat the highest regulator capital standards.

Restructuring reduces loans outstanding


Net loans and leases outstanding slipped by 1.7 percent. The decline was largely attributable to portfolio restructuring by several large institutions.

Mergers and failures shrink the industry


During the fourth quarter, the number of insured institutions shrank by 79. There were 12 failures in the quarter and 15 new charters. The rest of the decline was related to merger activity and FDIC assistance transactions. For the year, 25 banks failed and 98 institutions were chartered.  

As of December 31, the FDIC’s bad bank list contained 252 insured institutions, representing total assets of $159 billion. 


Topics: FDIC, Banking industry, Bank Mergers, Quarterly Banking Profile, equity capital, charge-offs, Loss, earning performance, mergers

Looking for Deals in All the Wrong Places?

Posted by Wendell Brock on Wed, Oct 08, 2008

 

The U.S. banking industry is caught in one of the worst crises in history. The momentous failure of Washington Mutual underscores how bad things have gotten: the bank's $307 billion asset base sharply exceeds the formerly largest failure of $40 billion Continental Illinois National Bank and Trust in 1984.   

Pressure from the ongoing liquidity crisis has pushed bank multiples down considerably, to the point that bargain hunting investors are out on the prowl. Prior to the present crisis, community banks were selling for somewhere between 2 and 3.6 times book value. Now, multiples have dropped below 2, hovering at about 1.85 times. The dip has created a scratch-and-dent sale of sorts, as investors can swoop in and purchase flawed community banks at a low price.

In early September for example, Yadkin Valley Financial Corp. announced that it would purchase American Community Bancshares Inc. and its American Community Bank subsidiary. The price tag on the deal was $92 million, just 168 percent of American Community Bancshares' book value.

In volatility there is opportunity

Prospective bank investors are recognizing that the best bargains can be had during the worst of times. Of course, the sale-priced banks do not come without significant problems that need to be worked out-but those problems are reflected in the pricing. So a cool-headed investment team with a clear strategy does have the opportunity to create substantial value. 

Investors should be prepared to face stiff competition on the best deals. The low multiples have caught the attention of investor groups of all types, from local community organizers to international investors. Most of these groups, by and large, appear to be focused on buying up the damaged goods, rather than building up from scratch.

Slow is smooth and smooth is fast

The old military quote, "slow is smooth and smooth is fast," articulates what's needed to take advantage of the opportunities in the marketplace today. The successful investor group will need to wade through competition from other investors, an increasingly stringent regulatory environment, the due diligence necessary to understand the bank's underlying problems and how much it will cost to fix them and, of course, the present liquidity crunch.

Preparing to purchase a bank under any condition is an effort that takes commitment and concentration. The added complexity created by today's environment is not to be taken lightly; in other words, this isn't the type of deal that can be phoned in. A team must be carefully assembled to provide sufficient levels of experience, talent and drive. The strategy must deliberate and focused. And, finally, the execution must be, above all, efficient.

Topics: Bank Opportunities, Buy a bank, Start a bank, Smarter Banks, Bank Mergers, Bank Sales

Citigroup Inc. to Acquire Banking Operations of Wachovia

Posted by Wendell Brock on Mon, Sep 29, 2008

FDIC, Federal Reserve and Treasury Agree to Provide Open Bank Assistance to Protect Depositors

Citigroup Inc. will acquire the banking operations of Wachovia Corporation; Charlotte, North Carolina, in a transaction facilitated by the Federal Deposit Insurance Corporation and concurred with by the Board of Governors of the Federal Reserve and the Secretary of the Treasury in consultation with the President. All depositors are fully protected and there is expected to be no cost to the Deposit Insurance Fund. Wachovia did not fail; rather, it is to be acquired by Citigroup Inc. on an open bank basis with assistance from the FDIC.

"For Wachovia customers, today's action will ensure seamless continuity of service from their bank and full protection for all of their deposits." said FDIC Chairman Sheila C. Bair. "There will be no interruption in services and bank customers should expect business as usual."

Citigroup Inc. will acquire the bulk of Wachovia's assets and liabilities, including five depository institutions and assume senior and subordinated debt of Wachovia Corp. Wachovia Corporation will continue to own AG Edwards and Evergreen. The FDIC has entered into a loss sharing arrangement on a pre-identified pool of loans. Under the agreement, Citigroup Inc. will absorb up to $42 billion of losses on a $312 billion pool of loans. The FDIC will absorb losses beyond that. Citigroup has granted the FDIC $12 billion in preferred stock and warrants to compensate the FDIC for bearing this risk.

In consultation with the President, the Secretary of the Treasury on the recommendation of the Federal Reserve and FDIC determined that open bank assistance was necessary to avoid serious adverse effects on economic conditions and financial stability.

"On the whole, the commercial banking system in the United States remains well capitalized. This morning's decision was made under extraordinary circumstances with significant consultation among the regulators and Treasury," Bair said. "This action was necessary to maintain confidence in the banking industry given current financial market conditions."

Wachovia customers with questions should call their normal banking representative, service center, 1-800-922-4684 or visit http://www.wachovia.com/. The FDIC's consumer hotline is 1-877-ASK-FDIC (1-877-275-3342) or visit http://www.fdic.gov/.

Topics: FDIC, Bank Regulators, Commercial Banks, Bank Mergers

FDIC Quarterly Banking Profile Highlights

Posted by Wendell Brock on Thu, Mar 20, 2008

By Wendell Brock, MBA, ChFC

Today the FDIC issued the Fourth Quarter 2007 banking profile, which contained very mixed results on a slippery slope. The industry as a whole is struggling through the latest national economic tidal wave of debt problems from the sub-prime termoil to an over leveraged derivative market. So the banks are squeezed between tougher regulation enforcement, higher deposit rates, lower net interest margins, larger loan loss reserves, higher charge off and noncurrent accounts, growth in deposits, etc. The following are some key highlights.

Widespread earnings weakness occurred in more than half the institutions - "51.2% reported lower net income than in the 4th quarter of 2006. One out of four institutions with assets greater than $10 billion reported a net loss for the fourth quarter." During the 4th quarter interest rates fell, which increased downward pressure on Net Interest Margins (NIM), making it the lowest quarterly NIM since 1989.

Total earnings for banks were off by 27.4% for all of 2007, which was a decline of $39.8 billion to $105.5 billion. This is the first time since 1999-2000 that annual net income declined. Only 49.2% of insured institutions reported improved earnings in 2007 - the lowest level in 23 years. Unprofitable institutions reached a 26 year high of 11.6% at the same time the ROA was the lowest in 26 years at 0.86%. This is the first time since the mid 1970's that noninterest income has declined - it fell by 2.9% to $233.4 billion.

2007 fourth quarter net charge offs spiked nearly 100% to $16.2 billion over the same quarter in 2006 which had $8.5 billion. This increase has regulators very worried. In mid 2006 the amount of noncurrent loans (loans which are 90 days past due) began an upward movement, this loan pool continued to swell by $26.9 billion, a increase of 32.5% during the 4th quarter of 2007. "The percentage of loans that were noncurrent at year-end was 1.39%, the highest level since the third quarter of 2002." This has prompted banks to put more away in their Allowance for Loan and Lease Losses (ALLL). The ALLL reserve ratio rose from 1.13% to 1.29% during the quarter; however it was not enough to cover the increase in noncurrent loans. "At year end, one in three institutions had noncurrent loans that exceeded reserves, compared to fewer than one in four institutions a year earlier."

Equity capital increased by $25.1 billion or 1.9%; at the same time the leverage ratio fell to 7.98% down from 8.14%. "In contrast, the industry's total risk-based capital ratio, which includes loss reserves, increased from 12.74% to 12.79%." In the end 99% of all insured institutions, which represents more than 99% of industry assets, met or exceeded the highest regulatory capital requirements. During this same time, banks were lending money - asset growth continued strong - assets increased by $331.8 billion or 2.6% during the quarter. Because of the high increase in noncurrent loans, examiners have been watching closely the concentrations of bank portfolios in commercial real estate. In spite of the construction slow down, the number of banks that have a high concentration of construction lending increased from 2,348 to 2,368. A high concentration of commercial real estate loans in a bank's loan portfolio is defined when that part of the loan portfolio exceeds the bank's total capital.

Deposits grew to record levels during the 4th quarter. Institutions saw an increase of $170.6 billion or 2.5%, the largest quarterly increase ever reported. "The industry's ratio of deposits to total assets, which hit an all time low of 64.4% at the end of the 3rd quarter, rose slightly to 64.5% at year end."

For the year, Trust Assets increased an amazing $2.6 trillion or 13.4% for managed accounts and $68.6 billion or 1.6% for non-managed accounts. "Five institutions accounted for 53% of the industry's net trust income in 2007."

In 2007, there were only three bank failures, this is the most since 2004 - this ended the unprecedented run of no bank failures (there was only one failure in the 4th quarter). The two-year term was the longest in the FDIC's history. During the quarter, there were 50 de novo banks, which brought the total for the year up to 181 new institutions. Mergers in the 4th quarter slowed down to 74 for an annual total of 321 banks merged out of existence. The regulator's problem bank list grew to 76 banks, up from 65 at the close of the 3rd quarter. The total assets of these problem banks are $22.3 billion, up from $18.5 billion at the end of the 3rd quarter. The total FDIC insured institutions ended the year at 8,533 down, slightly from 8,559.  For a complete copy of the report see request for a white paper.

By:
Wendell Brock, MBA, ChFC
Principal
De Novo Strategy
www.denovostrategy.com


Topics: FDIC, Bank Mergers, Quarterly Banking Report, Deposit Growth, De Novo Banks, Noncurrent loans, Commercial Bank

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BankNotes© is published by De Novo Strategy as a service to clients and other friends. The information contained in this publication should not be construed as legal, accounting, or investment advice. Should further analysis or explanation of the subject matter be required, please contact De Novo Strategy at subscribe@denovostrategy.com.