The Community Bank Desert

Arizona has become a state without a significant community bank presence.

The population of community banks headquartered in the state has cratered in recent years thanks to Phoenix’s protracted boom, precipitous bust and slow rebuild.

Community banks have long-leveraged their local presence, flat organization and flexibility to meet customer needs, says Michael Stevens, senior executive vice president with the Conference of State Bank Supervisors. But small banks are encountering a number of challenges that threaten their relevance and independence, and the meager number of de novos is doing little to combat the trend.

Those forces are playing out in Arizona. The state’s deposit market is dominated by big out-of-state banks. Phoenix-based Western Alliance Bancorp, the largest bank based in Arizona with $26.3 billion in assets, has more than half of its deposits outside of the state. No other local bank has more than $1 billion in assets.

In the years leading up to the financial crisis, the desert state enjoyed rapid population and economic growth, fueled in part by construction and real estate. The number of commercial banks headquartered in the state grew from 45 in 2004 to 55 in 2008, according to FDIC data.

Residents who moved to the state may have stayed with the large national banks, wrote Lee McPheters, the director of the JPMorgan Chase Economic Outlook Center at Arizona State University, in an email. The diverse offerings and geographies of those banks gave them an edge over local community banks when Arizona’s real estate bubble popped in the financial crisis. It took five years for the state to recover all lost jobs in the recession, according to McPheters.

Since 2008, the number of banks headquartered in Arizona has steadily declined due to M&A and failures; there are only 15 today. And the number is even smaller if you look just at community banks.

Arizona had 14 community banks in the third quarter — the fifth lowest in the country — according to “Banking Strategist,” which defines a community bank as an institution with less than $10 billion in assets. That number will decline further after the acquisition of State Bank of Arizona in Lake Havasu City, Arizona. The bank, which has $677 million in assets, agreed earlier this year to be acquired by Kalispell, Montana-based Glacier Bancorp, which has $13.7 billion in assets.

Arizona’s boom and bust created a “tough market” for smaller banks, but it needs them, McPheters wrote. Since 2005, Arizona has ranked among the 10 fastest growing states for employment, driven by industries like construction, education, transportation and health care.

“The implications for small business are important,” McPheters writes. “Because Arizona depends more on small business than many other states, due partly to a very mobile population, community banks are important.”

Bob Homco, the proposed CEO of Discovery Business Bank, a bank in organization, agrees.

“The community bank has always served a purpose,” he says. He highlights the local decision-making that is lacking among the “order-takers” at bigger banks, which have been reducing their footprints for years. In his three decades of experience, starting, running and selling three banks in the state, a successful operation requires a local management team.

“I think some of the struggle over the years has been in bringing in out-of-state management at the presidential level or chief credit officer level,” he says. “If they’re not from here or have experience here, it’s tough to penetrate the market on a quality level.”

McPheters says the recovery has created larger lending opportunities that smaller community banks may not be able to partake in, such as land deals or construction projects that accompany population growth and expansion.

Homco says Discovery Business Bank plans to raise more than $15 million in capital, which he believes can meet the needs of businesses in Chandler, Arizona, where it will be based. Additionally, the bank will have a network to facilitate borrowers’ needs if they exceed its legal lending limit.

The Conference of State Bank Supervisors is very aware of these trends. The organization focuses on understanding the impact of supervision on  bank operations, and has hosted a research conference on community bank policy with the Federal Reserve Bank of St. Louis and the Federal Deposit Insurance Corp. for years.

“The goal is to craft policy that understands and appreciates the way community banks operate by encouraging more research, so that we don’t end up in a scenario like you might be describing: the death of community banks,” Stevens says. “We don’t believe that is in our national economic interest.”