Fruits of Banking Not Equally Shared

The banking industry in general seems to be doing quite well, thank you. Profitability has risen in the past year. Banks overall have seen 20 straight quarters of improved credit quality. Loan growth is picking up. So all is good, right?

Investment bankers and attorneys speaking Sunday at Bank Director’s Acquire or Be Acquired Conference in Scottsdale, Arizona, said yes, but with big qualifiers. The benefits of an improved market have not been equally shared. Some banks are doing better than others. And low interest rates are putting pressure on banks to sell.

Small and mid-sized banks, those with less than $50 billion in assets, are actually outperforming the bigger banks, said Tom Michaud, the chief executive officer at investment bank Keefe, Bruyette & Woods. The sweet spot seems to be banks between $5 billion and $50 billion in assets. Their profitability metrics are higher, they are growing loans at a faster pace, and they command higher pricing multiples compared to bigger banks, he said. Part of that is the sheer size of the regulatory fines bigger banks are still getting hit with, seven years after the start of the financial crisis.  Plus, big, global banks must maintain higher capital levels than smaller banks, which impacts their profitability. “The small-cap banks grow faster,” said Michaud, and on a relative basis, “they earn more money.’’

But small cap is a relative term. Many of those attending the conference are directors or officers at banks below $1 billion in assets, and for them, pricing multiples can be a challenge unless they are in a good growth market and have strong earnings.

Those bank boards that manage to sell their banks at 1.5 to 2 times book value tend to be high earning banks with high loan to deposit ratios in or near a metro area, where much of the loan growth is occurring in the country, not in a rural area, says Curtis Carpenter, managing director at Sheshunoff & Co. Investment Banking. Size also matters. The median asset size for a bank that sold at two times adjusted book value since 2013 was $917 million, versus $213 million for a bank that sold at 1 to 1.25 times book, he said.

“Larger banks tend to be more profitable, but even more so, bigger sellers tend to attract bigger buyers,’’ he said.

Smaller banks are often less profitable and less efficient than bigger banks, which is leading some of them to sell to larger entities, especially since pricing for deals has improved in the last year, so they can make more money when they sell their banks than they could in prior years. Interest rates have stayed down longer than many predicted, which has kept pressure on net interest margins, the key metric for most community banks, which rely on loans to generate earnings. Low interest rates may also lead to more consolidation going forward, as banks search for better efficiency and growth through acquisitions.

“The reality is organic growth is tough,’’ said Chris Myers, the president and CEO of the $7.2-billion Citizens Business Bank in Ontario, California, who spoke at the conference. His bank is one of those in the “sweet spot” for higher valuations and higher profitability, but even he feels the pressure to grow. “A lot of banks are stretching to try to grow [loans] and do things they wouldn’t have done in the past,’’ he said, commenting on the competition for good loans. “ We are going to need to do some acquisitions.”