Banking on ways to grow

January 31, 2016

Banking on ways to grow

Sherry Slater | The Journal Gazette

If you want to build a banking empire, you need a growth strategy.

Some of the midsized banks serving Fort Wayne’s marketplace swear by the slow, steady pace that comes from using existing resources to attract more deposits and make more loans, a process called organic growth. 

But other local banks say acquisitions are the quick, easy way to bulk up. They are part of what banking analysts say is a growing national trend. 

Old National Bancorp, an Evansville-based financial services provider, has been on a buying spree in recent years. It’s also among a wave of Midwest banks that announced significant acquisitions this month. 

Old National plans to buy Madison, Wisconsin-based Anchor BanCorp Wisconsin Inc. for about $460 million. It’s the most expensive deal Old National has tackled. The bank paid $110.3 million for Fort Wayne-based Tower Bank in 2014.

On the same day last week, Huntington Bancshares announced plans to buy FirstMerit Corp.; German American Bancorp said it will acquire River Valley Bancorp; and Chemical Bank announced plans to buy Talmer Bank. The three deals include two Ohio-based banks, two Indiana-based banks and two Michigan-based banks, respectively. 

Neither growth strategy is definitively right or wrong, said David Findlay, Lake City Bank’s president and CEO. Even so, he has definite ideas about which is the right choice for his Warsaw-based bank.

“Opening offices one at a time, hiring (loan) officers one at a time and making loans one at a time” is the Lake City way, he said, adding that the bank’s financial results reflect the benefits of that approach.

Joe Stieven, a St. Louis-based banking analyst, applauded Lake City’s approach. “I think those guys run an exceptionally tight ship,” he said last week.

But the founder and CEO of Stieven Capital Advisors doesn’t take sides in the fast vs. slow debate. It depends, he said, on how well management can execute its growth plan. 

Tortoise vs. hare

Bob Jones, Old National’s president and CEO, said his bank’s merger-and-acquisition strategy is a response to years of rock-bottom interest rates coupled with increased regulation.

Low interest rates make it harder for banks to earn a profit on loans, experts say. Increased regulation makes officials spend more on accounting, auditing, legal and other internal operations.

Stieven, who evaluates banks nationwide, agreed that the added regulatory burden is fueling the acquisition trend.

“It’s so expensive, it’s forcing banks to merge,” he said.

Fort Wayne-based STAR Bank is also looking for acquisition targets, CEO Jim Marcuccilli said. Officials have evaluated and bid on two deals within the past six months. But the closely held, private bank didn’t submit the top offer in either case.

Increased regulatory costs are driving STAR’s strategy, Marcuccilli said. 

“We think there are markets where we have some voids in our footprint,” he added, referring to the geographical area the bank serves.

He said it’s important to carefully evaluate acquisition targets because making a poor choice can damage the acquiring bank.

“You have to grow and grow profitably,” he said. “You can’t just grow for growth’s sake.”

Stieven said several situations can keep a deal from becoming profitable. They include overpaying for the bank, finding problem loans in the portfolio, experiencing difficulty converting computer systems and cultural differences.

The last item, Stieven said, is harder to define but “the most important, probably.”

The ground game

Lake City has strong organic growth potential in 2016 and beyond, Findlay said. That’s despite the fact that he considers it slower and harder to achieve than acquisition growth.

But, he said, it doesn’t pose the same portfolio risk. When a bank buys another’s loans, it relies on decisions made using guidelines out of its control.

1st Source has embraced a similar strategy.

“Our major focus is growing one customer at a time,” said Chairman and CEO Christopher Murphy III. 

Even so, he said, South Bend-based 1st Source sometimes considers acquisitions. 

Murphy’s reasons include low interest rates and increased regulation. But banks also have to deal with increasing costs for cybersecurity; competition from Pay­Pal, Apple Pay and others; and government-imposed limits on how much they can charge in credit and debit card fees.

When it comes to competitors, Murphy wonders if yet another factor plays a significant role in pursuing deals. Some CEO pay is tied to the institution’s total assets, he said. Each new acquisition adds to the total, potentially upping the chief executive’s salary.

“So you tie that to testosterone, and you have the drive to acquire,” Murphy said. 

Murphy’s position as a major shareholder means he benefits most from increased shareholder value that comes from slow, steady growth, he said. 

Asked whether he was taking aim at Old National, Murphy brushed off the suggestion.

“It’s not meant to be a personal swipe at Bob Jones,” he said. “He’s got to work with his board as to what strategy is best for them.”

Kathy Schoettlin, Old National’s spokeswoman, said Jones’ compensation is primarily tied to the bank’s performance. “He does not receive a cash incentive/compensation as a result of a partnership” with another bank, she said in an email.

But Old National does have an added incentive to acquire that some competitors don’t. As the largest bank headquartered in Indiana, Old National is the only one with assets of more than $10 billion. At that size, additional regulations kick in, adding additional costs. The only way Old National can benefit from economies of scale is to grow well beyond the $10 billion mark.

The bank reported $11.9 billion in assets as of Sept. 30, the most recent data available. AnchorBank has $2.2 billion in total assets. 

1st Source has what Murphy described as a dramatically more diverse income stream than other midsized banks operating in northeast Indiana. One of the corporation’s subsidiaries makes loans for aircraft, rental car fleets and other transportation.

The niche positions the bank to reach a larger market of potential borrowers and depositors, he said. That adds to its organic growth opportunities.

Murphy compares banking to a football team’s running game, which advances slowly and relies on blocking and tackling. The Hail Mary pass into the end zone might be exciting to watch, but it rarely connects, he said. The occasional acquisition is like that high-risk, high-reward pass, Murphy said.

Seizing opportunities

Old National’s Jones sees opportunity for Anchor branches to generate more profit once they’re operating under his bank’s brand.

Anchor is a traditional retail bank that doesn’t offer trust or investment services. Expanding Old National’s services to Anchor account holders will increase revenue, he said. 

Jones also sees opportunity to hire more business and mortgage lenders, who would generate additional income.

iAB Financial Bank is searching for the same economies of scale, said President and CEO Mike Marhenke.

The Fort Wayne-based holding company created by the merger of Grabill Bank and MarkleBank last year acquired the First State Bank of Bourbon, which had $88 million in assets and two ­branches.

Marhenke continues to scout for more deals. 

“We still feel that organic growth is a challenge for banks,” he said, citing increased costs of doing business.

For a bank to add customers within its existing area, it has to steal customers from competitors, which isn’t easy, Marhenke said. Loan officers have to lower interest rates, relax underwriting requirements – or both – to attract new business, he said. Either way, that hurts the bank’s loan portfolio.

Dangers also lurk for aggressive acquirers, Marhenke said. If a bank bids high to make sure it wins the deal, it can take a long time to pay off that premium. Share price – and the investors who own shares – can suffer, he said.

Turning a profit from acquisitions all comes down to execution, said Stieven, the analyst.

“There are banks that can grow very fast and still do well for shareholders,” he said, “and some that don’t.”