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4 Small Bank CEOs Speak On The Future Of Opportunities In The Sector

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4 Small Bank CEOs Speak On The Future Of Opportunities In The Sector

The world of banking, especially community banking, is changing rapidly.

As Fed Governor Jerome Powell said in the opening section of the recent Community Banking Community Banking in the 21st Century Paper released last month, “For many community banks, the past year has been one of significant improvement. Bank balance sheets have strengthened, with notable reductions in problem assets. Liquidity remains ample, with many banks actively competing for prime lending opportunities. Yet despite this progress, community bank earnings have not returned to pre-crisis levels, and many banks feel burdened by the challenges of new and changing regulations.”

It was noted in the report that, "Comments from survey respondents link reasons for considering acquisition offers to regulatory burden." One banker said, “The appearance that institutions of our size may not be viable in the future.” Additional comments communicate personal reflections of operating community banks under what bankers perceive and as an excessive regulatory burden.

One comment mentioned management fatigue and another respondent said, "Banking is not fun anymore."

Twenty percent of respondents to the Fed Survey expect to make an offer next year and another 20 percent expect to be the target of an acquisition offer in the next 12 months. The M&A wave in community banks is real and it has started.

Many of the bank CEOs have recently express the same view of the industry.

Northfield Bancorp, CEO John Alexander

When asked about the prospects of a looming merger wave Northfield Bancorp (NASDAQ: NFBK) CEO John Alexander said “In large part, I think it is already here. If you look at the number of transactions in 2014 and even in 2013, it has been increasing. One thing to keep in focus too is that back two, three or four years, many banks were selling below tangible book value. As things have improved, banks are beginning to sell in the 130 to 160 percent of tangible book value range, with some even higher. Think about the current environment -- yields are low, lending rates are super competitive and costs are rising -- costs such as compliance, the Bank Secrecy Act and Anti-Money Laundering, and more recently risk management. The pressure on earnings is endless. A lot of smaller banks are looking at all of this and coming to the conclusion that it makes sense to sell or “partner up.”

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Hometrust Bancshares, CEO Dana Stonestreet

CEO Dana Stonestreet of Hometrust Bancshares (NASDAQ: HTBI) recently observed “The volume of regulatory change has been unreasonable and somewhat unproductive. At a time when banks still need to be taking care of customers, it makes it harder to take care of customers.” The CFO of the bank, Tony VunCannon, commented. “That will be a driver for continued consolidation as well. You've got many factors there, but that's another huge factor for smaller banks, because how in the world can they keep up with it?” When asked specifically about the future of community banks Mr. Stonestreet added, “We think consolidation is just going to be continuing to ramp up. It is so challenging to be a small bank in this current environment with the expense of being in the banking business. The government won't admit to the fact they've raised the bar significantly on the size you need to be to be in this market.”

Pacific Mercantile Bancorp, CEO Steve Buster

CEO Steve Buster of Pacific Mercantile Bancorp (NASDAQ: PMBC) has a similar view of the future but sees a strong opportunity for the surviving community banks as well. He told us, “For the small community banks, I think they will capitulate to consolidation with larger banks. It won't be the big banks buying them, but there will be a consolidation to the multi-billion dollar smaller banks by the $500 million and less community bank. I think that is a wave. Secondly, the community bank population has shrunk so much that I feel there is a real opportunity for the remaining survivors to fill the niche of what clients really want. I think we're going to have a very healthy environment for some years.”

ESSA Bancorp, CEO Gary Olson

CEO Gary Olson of ESSA Bancorp (NASDAQ: ESSA) in Pennsylvania sees a similar scenario for the little banks. In a recent interview he told us, “When I started, which was three or four years prior to Reagan deregulating the business, there were about 20,000 banks and now we're just shy of 7,000 banks. Even in our own market, we've witnessed a number of banks leaving the marketplace... Again, we have structured the company to be independent for the long term, and we actually say that in our values. So, I think the ESSA continues to weather whatever storms might be out there. Through four big problems in my career, we've seemingly figured out a way to be here to weather all those storms and my guess is that there's going to continue to be some fallout in the industry. There are currently 6,700 to 6,800 banks, and like others, we think there'll probably be less than 5,000 banks in another ten years or less. People just get tired and boards get concerned that the values continue to shrink and they take their payday while they can and that's the end of it.”

Investors should listen very carefully to what the Fed and the people running the community banks across the U.S. are saying.

The landscape is changing and many of these banks are going to be pretty much forced to sell to a larger institution. Since the average takeover multiple right now is about 1.3 times book value buying shares in these little banks at 85% or so book value and less equals an enormous opportunity to make a lot of money.

Those banks that do find a niche or can dominate their local markets with superior service and localized knowledge will perform very well going forward. These Darwinist (survival of the fittest) banks should see earnings, book value and dividends grow at a strong pace and drive the stock price a lot higher over the next decade.

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