Post-pandemic effects took a toll on merger and acquisitions in the banking industry throughout most of 2020 with many discussions put on hold. Management was initially concerned about potential credit quality issues, which gave way to dealing with loan modifications and deferrals, then the time demanding onslaught of funding PPP loans arrived further pushing off any potential M & A discussions. In summary, banks were focused on playing their part in saving the economy, organizing for a COVID 19 work environment, and taking care of their existing customers. Compounding the bank operating environment were tight net interest rate margins, excess liquidity, and loans put on deferral due to the pandemic.
Nevertheless, 2021 may reflect improving conditions with respect to M&A discussions as banks get a better handle on economic conditions. According to recent reports Bank CEOs are now willing to at least explore the possibility of a business combination, especially since the world is now gravitating towards digital delivery due in part to the pandemic and the accentuating need of banks to shed overhead and decrease physical footprints.
According to a recent Bank Director survey, the acquisition of loan portfolios and integrating additional branches “looks slightly less attractive than a year ago.” Fewer bankers expect their institutions will invest in an acquisition strategy during the next 12 months relative to a year earlier, as they are busy in many cases working through the pandemic’s economic tail and resulting drop off in financial performance when excluding the one-time profits generated from participation in PPP.
Polling by the trade publication Bank Director reports about one-third of executives have stated that they expect their bank to engage in an attempt to acquire another institution in 2021, which is down from 44 percent based on the results a year ago.
As to M&A activity, a few new twists have developed over the prior few years. A new market acquirer interestingly involves non-taxed credit unions engaging in acquiring community banks and mid-sized banks. Due to the favorable credit union tax status, many in financial sector are crying foul as the credit unions have not only strayed from their tax-exempt missions but have the ability to potentially offer more in consideration for a transaction. Additionally, credit unions may be inclined to pay more as they are not beholden to stockholders. Another issue related to the credit unions stepping into the M & A fray is whether it makes sense for a $10 billion dollar credit union such as Vystar Credit Union, who walks and talks like a bank, should enjoy a tax free status then use this status to agree to purchase a bank for $189 million effectively removing the bank from the tax payer rolls.
Fintech’s are also interesting new market entrants. The fintech industry is both seeking to obtain de novo bank charters as well as turning its attention to M&A activity. The first big splash in this area came when LendingClub announced the completion of its’ acquisition of Radius Bancorp, Inc. in early February this year, only to be followed by the March announcement of SoFi’a plan to purchase a small community bank – Golden Pacific, with future plans to capitalize the bank and expand across the nation.
Bank analysts and the bank industry in general are closely watching skirmish trends that are attacking the banking system as we know it today. The fintech disruption in part is centered around the definition of a bank, the control of the payment system, and the level and authority of both state and federal financial regulators should employ as it relates to protecting consumers, safety and soundness, and creating a level playing field with respect to both regulation and taxes for all financial institutions.
In the interim, M & A discussions will continue, but primarily driven in part by creating expense savings as most combinations contemplated today may have trouble bringing in more top line revenue.
Finally, with respect to bank valuations the waiting game continues as increases are closely aligned with digital adoption, brick and mortar reduction, credit quality, and the emergence from the economic tail associated with the pandemic.
When credit quality and the economic outlook change, prepare to see bank valuations increase slightly notwithstanding the fact bank franchise values will still be tempered by the low-rate climate.
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