The Busy Bank Merger Scene

A myriad of factors are converging upon and within Arkansas’ banking sector and it is spurring renewed interests in mergers and acquisitions on the heels of a lengthy economic recovery and heightened regulatory oversight.

“The bigger banks are growing larger, swallowing up smaller institutions and there are several factors at play here,” said Gaines Dittrich, a banking consultant and CEO of Joplin, Mo.-based Dittrich & Associates. “Compressed margins and higher operating costs have some banks stretching into new markets in hopes of growing overall sales, while finding some synergies that help to reduce overall cost of operations.”

He said there are also a number of veteran bank owners who are ready to exit the business, and mergers and acquisitions make that possible. Analysts said that has been the case in Arkansas, with four high-profile mergers announced in the previous six months.

Garland Binns, banking attorney with Dover Dixon and Horne, said most of the bank acquisitions in Arkansas are a result of the pursuer wanting to increase market share in an existing community or to expand into new markets. By spreading their wings, acquiring banks can disperse their operating cost and overhead expenses over a wider area, while also finding savings in areas like compliance personnel and information technology.

Binns and Dittrich said recent consolidation activity in Arkansas and the U.S. has been “strategic” with the expanding banks targeting specific markets where they want to operate and often paying slight premiums in those deals. Dittrich said this is a departure from the FDIC-assisted takeovers in recent years that came with shared-loss agreements when the main targets were failing banks – mostly out of state.

Bank consolidation is nothing new, according to John Dominick, consultant and banking professor at the University of Arkansas. He said in the 1970s with the relaxing of regulation it became easy to obtain a charter and start a new bank. A plethora of institutions popped up across the country. The trend since 2000 has been consolidation, although much of the acquisition activity in 2010 and 2011 was related to bank closures. He said community banks are starting to show profits and most have weathered the worst of the financial storm and that makes them more attractive to buyers and raises the selling price for the owners.

All three analysts expect to see more bank mergers in the next few years as the cost of doing business rises amid looming regulatory oversight.

THE DEALS
• June 2013: Home Bancshares acquires Liberty Bank, a deal valued at $280 million that creates the second largest bank in Arkansas with assets of $7.1 billion in assets.

The Home Bancshares-Liberty deal is seen by Dittrich as a “brilliant play” by Home Bancshares Chairman Johnny Allison and his Centennial Bank brand. He said the purchase was “textbook ideal” in that it gives Centennial Bank a broader footprint across the state – a market Allison knows very well. The pro forma bank will have 92 branches in Arkansas, more than double that of Centennial Bank prior to the merger, with almost no branch overlap.

“This deal creates a lot of value in Home Bancshares and at the same time provides an exit strategy for the closely-held Liberty Bank,” Dittrich said.

Wallace Fowler, Liberty Chairman and CEO, will walk away with roughly 1.2 million shares of Home Bancshares with a street value of roughly $35.7 million when the deal is done. Liberty Bank also announced cash severance of $1.88 million paid to each of three departing executives, Lloyd McCracken, Mark Fowler and John Freeman.

Binns said when a publicly traded company buys out a private owner in shares, in lieu of cash, there can be favorable tax advantages as the transaction is deemed a tax-free exchange. Those shares can then be redeemed in the open market at the owner’s discretion or passed through to an estate.

• July 2013: First Federal Bancshares acquires First National Security Co. in a deal valued at $124 million.

First Federal Bancshares’ recent buying spree included two institutions, First National Bank in Hot Springs and Heritage Bank of Jonesboro for a total cost of $124 million, slightly over book value, analysts said. Harrison-based First Federal said the banks would retain separate charters and the combined assets for the holding company would be roughly $1.4 billion, nearly three times higher than pre-merger. Like the Home Bancshares deal, First Federal’s expansion gave the thrift a much broader footprint into two of the state’s growing markets, Hot Springs and Jonesboro.

First Federal is not only buying, but also selling some of its branches as it continues to rationalize its branch network. The bank recently sold its branch in Farmington to First Security Bank. The Farmington branch opened in 1997, and is located just four miles west of Fayetteville, and grew assets to $10.7 million.

Chris Wewers, president and CEO of First Federal Bank, recently said after careful evaluation of the branch, the firm felt it best to sell the asset. He said First Federal likes to obtain a critical mass and deposits of $20 million in a branch to justify its existence. First Security, on the other hand uses $15 million as its minimum threshold for branch deposits.

• September 2013: Simmons First National acquires Metropolitan National Bank with a bid of $53.6 million paid to the federal court for the ongoing bankruptcy proceedings of Rogers Bancshares, the holding company for Little Rock-based Metropolitan National Bank.

The recent Simmons First National bid to purchase Metropolitan National Bank, was a little different, as Metropolitan was deemed a “troubled institution” – out of compliance with its regulatory enforcement actions. But, the $53.6 million purchase price for Metropolitan Bank, was seen as a “good deal” by analysts given the marketshare gains for Simmons First in Little Rock.

“Simmons First National has always catered to farm communities, being headquartered in Pine Bluff. Even some of the branches in Northwest Arkansas, like in Lincoln and Siloam Springs, cater to farmers. This deal gives Simmons a substantial marketshare gain in Little Rock, that’s great for diversity and puts them in the most populated area of the state,” Dominick said.

Simmons CEO George Makris said he does expect “significant branch consolidations to occur” once the deal is completed. Analysts predict much of that consolidation will take place in Northwest Arkansas where Metropolitan is heavily invested in underperforming branches (under $15 million in assets). There is considerable overlap in branch locations in Little Rock as well for the two banks.

Makris said this deal was financially attractive on several levels. Bank officials expect 25% earnings per share accretion in fiscal 2014 and 35% by 2015 after the first full year of conversion. The internal rate of return for this deal is a projected 27% with a three-year payback.

Simmons projects a cost savings of $15 million when the merger is completed. Makris said FDIC insurance cost savings will be roughly $1.6 million, while reduced legal fees and IT expenses will save $2.4 million. Those savings will be phased in at 60% the first year and 100% thereafter. He expects Simmons will see the full benefit in the third quarter of 2014.

• October 2013: Arvest Bank acquired Little Rock-based National Bank of Arkansas for an undisclosed amount.

Arvest, the state’s largest bank, just got a little bigger adding key marketshare in the Little Rock metro area with the pending purchase of National Bank of Arkansas.

“This acquisition of NBA will certainly help improve our marketshare in central Arkansas. We are looking forward to getting acquainted with NBA’s associates and customers. We like their locations in North Little Rock, west Little Rock and Conway, particularly,” said John Womack, chairman and CEO of Arvest Bank in Little Rock.

Bob Osborne, National Bank of Arkansas’ majority shareholder and chairman, recently said the time to sell the bank was “now” and after careful consideration bank ownership believed Arvest was the right fit. NBA has assets of $187 million, and posted net losses of $44,000 through the first half of this year, pocketing just $8,000 in all of 2012, according to the FDIC reports.

With the combined deposits of Arvest and NBA, the pro forma bank will command 7.64% of the Little Rock marketshare, leaping over the pro-forma Simmons-Metropolitan bank market share of 7.13%, based on the June 30, deposit report by the FDIC.

Phil Knight, a banking consultant in Rogers, said on the surface the deal looks like a good play for Arvest in terms of buying deposit market share, but without knowing how much was paid it’s hard to know how good. He said with NBA’s book value somewhere around $15.5 million, this deal is likely quite a bit cheaper than the $56 million offer Simmons made for the larger Metropolitan National Bank.

Banks have been selling somewhere around 1.5 times book value, if the bank is not under stress, according to Knight.

SMALL BANK CONCERNS
Three of the four mergers previously mentioned involved closely-held banks, with long-term family ties, a characteristic that roughly half of the nation’s community banks share.

Dittrich said the smaller, closely-held banks are the most vulnerable to acquisition in what he predicts will be the next wave of consolidations. He said smaller, family-owned banks face major headwinds with heightened regulatory costs related to Dodd-Frank legislation and Basal III capital requirements, which raise the cost of operations and compress bank earnings in an effort to decrease the potential instability resulting from large national and global financial companies that are highly leveraged.

“Banks with less than $200 million assets are going to have a hard time generating profits in light of the regulatory costs that are coming over the next three years, Dittrich said.

There are 147 banks doing business in Arkansas, conducting business in 1,442 branches, as of June 30. There were 96 banks chartered in Arkansas, and 63 of these had less than $200 million in assets. There were 30 banks in Arkansas operating with federal charters, 13 of these reported less than $200 million in assets as of June 30.

“Many small banks in Arkansas write a large number of commercial real estate loans, which carry a higher capital requirement under the new Basal III rules. Banks have maintained 100% risk weight for most CRE loans, but the new regulation creates a 150% risk weight for commercial real estate. That means banks will have to raise capital or make fewer loans,” he said.

The latter is the most likely scenario, Dittrich said, given that capital is hard to come by for many community banks still carrying a hefty pile of real estate on their balance sheets from the 2008 recession and the subsequent real estate bust. He said Basal III also creates a 150% risk weight for almost all past due exposures (excluding residential mortgages).

Dominick agreed that Basal III and Dodd-Frank regulation will sting small banks harder than their larger competitors. He said there are two things likely keeping small community bankers up at night.

First, he said the overhang of real estate on the books is a concern, particularly for banks that invested in Northwest Arkansas during the building boom. Next, he said the compliance issues they face with Basal III and Dodd-Frank, which are still being written. These weigh heavy on their minds because of the impact the new rules will have on bank capital, which is still very hard to raise for many banks, especially those with $500 million in assets and less, he said.