Presenting a live 90-minute webinar with interactive Q&A Bank Mergers and Consolidation: Structuring M&A Deals Overcoming Hurdles of Capital Requirements, TARP Funds, and Other Regulatory Demands TUESDAY, DECEMBER 3, 2013 1pm Eastern | 12pm Central | 11am Mountain | 10am Pacific Today’s faculty features: Mark C. Kanaly, Partner, Alston & Bird , Atlanta C. Robert Monroe, Partner, Stinson Morrison Hecker , Kansas City, Mo. The audio portion of the conference may be accessed via the telephone or by using your computer's speakers. Please refer to the instructions emailed to registrants for additional information. If you have any questions, please contact Customer Service at 1-800-926-7926 ext. 10 .
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Bank Mergers and Consolidation: Structuring M&A Deals December 3, 2013 Mark Kanaly Bob Monroe mark.kanaly@alston.com bmonroe@stinson.com (404)881-7975 816.691.3351
Overview of Banking Environment • Excess Funding • Limited organic loan growth • Lingering credit issues – provisions and credit costs continue • Hangover capital structures put pressure on bank earnings • Net interest margin compression 6
Overview of Banking Environment (continued) • Higher Capital Requirements/Less Leverage • Higher Regulatory Costs and Scrutiny • Intense Pricing Competition • Spread crisis • Lack of plentiful buyers in $5B+ asset range 7
Overview of Banking Environment (continued) • The United States has far more financial institutions than any of the other major developed economies in the world (sources: CIA World Fact Book; SNL Financial; European Central Bank; Canadian Bankers Association; Japanese Bankers Association) • Additionally, the United States has more financial institutions per citizen than any of those developed economy peers 8
Overview of Banking Environment (continued) • This financial services market saturation potentially sets the stage for massive industry consolidation during the next decade • The majority of this consolidation will occur in the community banking space (less than $10B in total assets) 9
Types of Banks that are Emerging • Smaller Banks ($500 million or less) hoping to become larger - MOEs • Large Number in Midwest hoping to get to $500 million+ • Survivors and Thrivors • Regional Banks increasing Footprints • Size seems to be a theme 10
Why that Fosters M&A Lack of robust organic loan growth + Increasing compliance and regulatory costs + Public markets celebrating the stocks of acquisitive banks + Sharp decline in FDIC-assisted transactions ____________________________________ = Significant M&A pressure on banks • The analyst and investment banking communities have been fueling this fire . . . • Public market valuations speak clearly to this point 11
Types of M&A/Trends • FDIC Assisted Transactions Dwindling • A lot of Asset Purchase Transactions (leaving bad assets with Seller and entering into Servicing agreements) • Traditional Stock Purchase and Merger Transaction • More Stock Deals (?) • More Branch Deals 12
Valuation and Pricing • Credit analysis and credit marks dictate pricing • Important role of third party loan review • Ability to measure / manage risks in resulting loan portfolio • Deals are priced based upon book value and not earnings • Analyst community is judging deals by two metrics: • Earn-back period for dilution to tangible book value • Cost savings • Role of Goodwill and Deferred Tax Assets 13
Earnback/Holdback Periods • Many deal types (i.e., asset, stock and merger) have Earnback/Holdback Provisions • Similar to Assisted Deals • Time Periods vary from 1-3 years • Deal Documents very hard to negotiate (indemnity provisions) • Kill many Deals 14
Tangible Book Value vs. Earnings Analysis • Price to Tangible Book Value • Derivative of earnings • Cited most often in an absence of earnings • Sets the pricing ceiling in boom times and the pricing floor in recessionary times • Earnings • True measure of profitability and value • The key metric in normal economic periods • Sets the pricing floor in boom times and the pricing ceiling in recessionary times 15
Tangible Book Value vs. Earnings Analysis (continued) 16
Tangible Book Value vs. Earnings Analysis (continued) • Banks historically traded at 13x to 15x core earnings and sold at 17x to 20x core earnings • Rising real estate values, lenient lending standards and lower compliance costs permitted ROAs of 1.00% or more • 5% Tier 1 Leverage was considered healthy, making high ROEs relatively easy to achieve • It wasn’t uncommon for acquirers, returning 1.30% ROA on 5% capital and trading at 380% of TBV, to acquire targets at 17x-20x earnings and still have an accretive acquisition 17
Tangible Book Value vs. Earnings Analysis (continued) 18
Tangible Book Value vs. Earnings Analysis (continued) • More restrictive lending standards and fierce competition for good credits putting pressure on spreads • Increased regulatory burden is driving higher fixed compliance costs • Both put pressure on ROAs, making 1.00% exceptional instead of the norm • 8% Tier 1 Leverage is the new “healthy,” making high ROEs harder to achieve • Dividend yields will also have a substantial impact on trading price • Depressed valuations lead to lower merger premiums (per SNL, YTD average P/TBV for bank mergers in the Southeast: 105.3%) 19
Tangible Book Value vs. Earnings Analysis (continued) 20
Tangible Book Value vs. Earnings Analysis (continued) Across market cycles, larger community banks enjoy a significant trading price advantage over their smaller peers 21 Source: SNL Financial
Regulatory and Other Deal Hurdles • TARP • TRUPS • CRA • Bank Stock Loans • AML/BSA/OFAC Scrutiny • QM • Consumer Protection Rules • Consumer Advocacy Groups 22
Regulatory Issues Facing Private Equity and Hedge Fund Investors • Ownership Thresholds and Resulting Ownership Structure • Voting vs. Non-Voting Positions • ROI and Internal Timelines • Liquidity Events • Multiple Stakes/Co-Investment • Passivity Commitments 23
Other Challenges • HHI • Regulatory Orders • Stockholder Challenges (Dissenters) • Fairness Opinions for Stock Deals • Seller Board • Seller Management 24
Other Challenges (continued) • Pricing (be sure purchase price calculations are understood – use examples) • Investment Portfolio Valuations and types of Investments 25
Credit Diligence and Risk Allocation • Avoid Surprises • Conveyance of Order • Pro Forma CAMELS 2 Requirement • Third Party Loan Review • Lending Constraints Going Forward 26
Legal Due Diligence • Review all written and oral contracts as soon as possible • Data processing • Employee benefits • Real estate being acquired • Title work • Survey (?) • Environmental search 27
Legal Due Diligence (continued) • Real Property Leases • Personal Property Leases • Litigation • Securities Issued by Seller • Bylaws and Articles (Bank and BHC) • Insurance (including D&O and BOLI) • TRUPS and TARP (if applicable) 28
Legal Due Diligence (continued) • Other Debt Documents (FHLB & Bank Stock loan) • Past Securities Offering Documents • Shareholder Agreements • Sample of Loan Documents • OREO • Vendors 29
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