The Big Shakeout

The board of $3.2 billion Integra Bank Corp. has proven it isnu00e2u20acu2122t afraid to employ a little opportunism and take a few chances in its quest for growth. In September, the Evansville, Indiana-based company announced the acquisition of Peoples Community Bancorp, a $1 billion thrift in West Chester, Ohio. On the surface, the deal looks dicey. The mortgage business is in the dumps, and Peoples has other problemsu00e2u20ac”unsecured loans to developers and some poorly integrated past dealsu00e2u20ac”on its plate. In the third quarter, the thrift reported a loss of 30 cents per share.

Michael Vea, Integrau00e2u20acu2122s chairman and CEO, concedes that some investors have questioned the wisdom of buying a struggling thrift in the middle of a mortgage meltdown. Directors had queries as well. u00e2u20acu0153It was, u00e2u20acu02dcHow does it fit? What does it do to our balance sheet? What does it do to credit?u00e2u20acu2122u00e2u20ac Vea says. But he has been quietly courting several institutions in the Greater Cincinnati area for yearsu00e2u20ac”viewing the regionu00e2u20acu2122s robust lending market as a good match for Integrau00e2u20acu2122s low-cost, rural funding baseu00e2u20ac”and has kept directors in the loop on his thinking. So when Peoples, which has 19 offices, mostly in upscale suburban communities, became available at the right price and terms, the board was set to pounce.

The $87.5 million cash-and-stock deal was priced almost exactly at Peoplesu00e2u20acu2122 book value and, at $17.69 per share, offered a modest 10% premium to Peoplesu00e2u20acu2122 previous dayu00e2u20acu2122s closing price. That was well off the $25 the stock traded for a couple of years earlier, and made it a relative bargain compared with the prices other financial institutions with attractive metro footprints have fetched in recent years. u00e2u20acu0153Itu00e2u20acu2122s a thrift with credit issues,u00e2u20ac Vea says. u00e2u20acu0153Candidly, there arenu00e2u20acu2122t a lot of buyers interested in that profile right now,u00e2u20ac which drove the price down.

In a nod to the current turmoil, the deal includes covenants that allow Integra to reopen negotiations or simply walk away if Peoplesu00e2u20acu2122 credit quality or net worth takes a bigger hit. u00e2u20acu0153We added some structural protection in there that the board felt was appropriate, given the environment,u00e2u20ac Vea explains. u00e2u20acu0153But we think the opportunity over the next couple of years to turn this around is worth the risk. u00e2u20acu00a6 Itu00e2u20acu2122s a strategic acquisition, a very important deal for us.u00e2u20ac

Mergers and acquisitions are part of the lifeblood of a consolidating banking industry. With some 8,600 banks and thrifts remaining in the United Statesu00e2u20ac”and a thriving start-up market that continues to churn out new onesu00e2u20ac”there are still plenty of deals to come.

How much of that activity will occur in 2008 is anyoneu00e2u20acu2122s guess. But if the Peoples deal is any indicationu00e2u20ac”and many experts believe it isu00e2u20ac”weu00e2u20acu2122re confronting a starkly different reality from the one most banks and boards have grown accustomed to in recent years, one colored by enormous uncertainty over both credit quality and the economy.

u00e2u20acu0153Itu00e2u20acu2122s always very difficult to predictu00e2u20ac what the coming yearu00e2u20acu2122s M&A environment will be, says H. Rodgin Cohen, a partner and chairman of Sullivan & Cromwell, the New York law firm. u00e2u20acu0153But this year, it is almost impossible. The crystal ball is totally cloudy; the murk is like 99%.u00e2u20ac

Deals will still get done, most everyone agreesu00e2u20ac”but at a plodding pace for at least the first half of the year. Foreign banks could step up their purchases, capitalizing on both the industryu00e2u20acu2122s and the dollaru00e2u20acu2122s weakness to bulk up stateside. And some deals could involve more creativity than in the past, owing to shaky financing alternatives. u00e2u20acu0153Weu00e2u20acu2122ll see things that arenu00e2u20acu2122t the plain-vanilla, put-Bank-A-together-with-Bank-B deals,u00e2u20ac says William Hickey, cohead of investment banking for Sandler Ou00e2u20acu2122Neill & Partners in New York. u00e2u20acu0153We could see more private equity, or other third parties getting involved to take away some of the risk.u00e2u20ac

Above all, look for pricing to tick down a couple notches, even for more strategic combinations, as a shrinking list of potential buyers steps cautiously through an industry minefield filled with balance sheets that look poised to explode. Along the way, donu00e2u20acu2122t be surprised to see more institutions sold at bargain-basement pricesu00e2u20ac”u00c3u00a1 la Peoplesu00e2u20ac”as some boards decide they can no longer navigate a trying environment on their own and are forced to take what they can get from leery buyers.

u00e2u20acu0153Eventually, youu00e2u20acu2122re going to see a number of transactions that occur where institutions are forced into fire sales,u00e2u20ac says Stephen Klein, chairman and CEO of Omni Financial Services, a $1 billion banking company in Atlanta. u00e2u20acu0153The big question is, how many boards of directors are going to have the guts to say, u00e2u20acu02dcOur management canu00e2u20acu2122t manage through this environment, and we need to sell for real value, not inflated value.u00e2u20acu2122u00e2u20ac

Andrew Senchak, vice chairman of New York investment bank Keefe Bruyette & Woods, says boards and senior managers at most of his bank clients are focused on their own balance sheets, not dealmaking. Many traditional buyers are more than content to sit tight for what could be harder times to come, rather than deploying their capital for acquisitions.

u00e2u20acu0153Thereu00e2u20acu2122s an extra layer of caution in peopleu00e2u20acu2122s deliberations,u00e2u20ac Senchak says. u00e2u20acu0153The risk-taking appetite of everybody, including the big guys, just isnu00e2u20acu2122t there. This is not the kind of market that stirs the animal spirits and makes them want to take chances.u00e2u20ac

The subprime lending crisis that blossomed in 2007 has trickled into balance sheets across the country, and fear of asset quality troubles that might lurk beneath the surface of an acquiree is another driving force behind acquirer reticence.

Banks everywhere are suffering under the weight of credit issues. In the third quarter, industry earnings plunged a whopping 24.7%, according to the Federal Deposit Insurance Corp., to their lowest level in five years. Making things worse, institutions at the top of the industry food chain have taken big market-cap hits, leaving them with less currency to do deals. Between July and November, the value of the S&P Financials Index plummeted 22%, and such big-name companies as Wachovia Corp. and JPMorgan Chase & Co. were recently trading at less than 10 times 2008 earnings projections.

Even if they have the financial wherewithal, many traditional acquirers seem unwilling to bite, citing potential problems they fear might not show up in due diligence. Winston-Salem, North Carolina-based BB&T Corp. has thus far avoided write-downs related to the credit crunch. Yet John Allison IV, the $130 billion holding companyu00e2u20acu2122s CEO, declared in October that his companyu00e2u20ac”one of the industryu00e2u20acu2122s most prolific buyersu00e2u20ac”is, u00e2u20acu0153for all practical purposes, out of the community bank acquisition business,u00e2u20ac due to a combination of shaky balance sheets and continued high price expectations in the Southeast.

Increased regulatory scrutiny could further dampen the market. Will Luedke, a Houston-based partner with law firm Bracewell & Giuliani, argues that big loan losses could inspire a crackdown that would bar some institutions from acquisition activity. u00e2u20acu0153When regular examinations occur, if they find weak or careless underwriting is the cause for these loan losses, theyu00e2u20acu2122ll lean on those managementsu00e2u20ac with memorandums of understanding, or even cease-and-desist orders, he says. u00e2u20acu0153That could really curb M&A activity.u00e2u20ac

Among those most at risk: one of the nationu00e2u20acu2122s largest institutions. In a November research note, Deutsche Bank analyst Michael Mayo warned that Citigroupu00e2u20acu2122s balance sheet problemsu00e2u20ac”the company announced that it would take charges of up to $11 billion to cover higher-than-expected loan lossesu00e2u20ac”seem to violate prior agreements with regulators. That u00e2u20acu0153increases the likelihood that new restrictions may be placed on Citi, such as the inability to pursue acquisitions, according to the report.u00e2u20ac

Beyond all these logistical and psychological roadblocks, a cold, but simple, calculation is permeating the mindset of traditional buyers: Prices are bound to fall further, so why not wait?

Part of this is rooted in the fear of making a mistake. u00e2u20acu0153No one wants to buy now if the market has another 25% or 30% to fall,u00e2u20ac Cohen says. u00e2u20acu0153And with so much disarray, itu00e2u20acu2122s very hard to know where the bottom is.u00e2u20ac But thereu00e2u20acu2122s also a sense of opportunism in the thinking of some potential acquirers. u00e2u20acu0153The buyers are saying, u00e2u20acu02dcWe know the longer we wait, the worse your credit situation will get, and weu00e2u20acu2122ll be able to buy you cheaper,u00e2u20ac says Mark Fitzgibbon, Sandleru00e2u20acu2122s director of research. u00e2u20acu0153Itu00e2u20acu2122s a traditional Mexican standoff, exacerbated by credit.u00e2u20ac

Adds Senchak: u00e2u20acu0153Normally, we donu00e2u20acu2122t think of u00e2u20acu02dcnot doing anythingu00e2u20acu2122 as having returns. But the reality is, sometimes waiting can produce a lot of returns. This could be one of those occasions.u00e2u20ac

Richard Davis, CEO and a director of $222 billion Minneapolis-based U.S. Bancorp, says it makes no sense for his company to dive into the merger market until greater clarity exists. u00e2u20acu0153If we can all agree that the market has a ways to finish, then itu00e2u20acu2122s more prudent to sit on the sidelines and see what happens as things filter through, and what opportunities emerge afterwards,u00e2u20ac he says. u00e2u20acu0153As the world gets clearer, then we and everyone else who has an advantage will u00e2u20acu00a6 look for ways to capitalize on that. But for now, weu00e2u20acu2122re in no rush.u00e2u20ac

On the surface, 2007 wasnu00e2u20acu2122t a bad year. Average pricing multiples held about even with a year earlier, at 2.2 times book value and 25 times earnings, according to SNL Financial LLC in Charlottesville, Virginia. And while overall deal values were lower, owing to a relative lack of large transactionsu00e2u20ac”$71 billion, versus $109 billion a year earlieru00e2u20ac”volumes for the year remained steady. Through mid-November, 243 whole bank or thrift transactions were announced, almost exactly on pace to equal the 292 deals for 2006.

Even so, signs of an M&A slowdown are already evident. In the last three months of the measurement period, just 45 transactions were announced. Only 18 of those were priced at more than two times book value, while 14 failed to muster even 1.5 times book.

In one telling late-summer episode, two young, unnamed business banks in the hot Dallas market were put on the sales block, and received no offers. u00e2u20acu0153It was a basic start-up exit strategyu00e2u20ac”normal cash-out time,u00e2u20ac Luedke explains. u00e2u20acu0153Normally, youu00e2u20acu2122d have 15 banks interested, and the investment bankers would pull out three or four of the top bidders and have them go like animals at each other. This time, there was no interest.u00e2u20ac

The shortage of buyers is evident even at the top end of the scale. In perhaps the most notable deal of 2007, $40 billion Canadian-owned TD BankNorth (based in Portland, Maine) acquired once-high-flying Commerce Bancorp in October for $9.2 billion. One of the most successful retail banks of the past decade, and one with a desirable footprint in the Northeast, Commerceu00e2u20acu2122s sale would certainly have sparked a bidding war in better times. But the Cherry Hills, New Jersey-based company ran into regulatory trouble in the summer that forced longtime Chairman and CEO Vernon Hill II to resign. In short order, the board opted to sell out. u00e2u20acu0153When you lose your spiritual leader, thereu00e2u20acu2122s a momentum issue that occurs,u00e2u20ac Hickey says.

When $48 billion Commerce went on the block last fall, TD was the only interested party. William Ryan, TD BankNorthu00e2u20acu2122s CEO, u00e2u20acu0153knew he was in a very good position, because there were no other buyers,u00e2u20ac says Senchak, who represented TD. The Commerce boardu00e2u20acu2122s u00e2u20acu0153only other option was to take the bank off the market,u00e2u20ac he says, and it didnu00e2u20acu2122t want to do that. That turned the negotiations into an intense one-on-one u00e2u20acu0153feeling-out process,u00e2u20ac where Ryan u00e2u20acu0153had to simply find the lowest price the [Commerce] board was willing to accept,u00e2u20ac Senchak says. While the final price, at 2.9 times Commerceu00e2u20acu2122s book value and 28 times earnings, appeared healthy, analysts agree it would likely have been higher in better times.

David Zalman, chairman and CEO of $6.2 billion Prosperity Bancshares in Houston, predicts buyer skittishnessu00e2u20ac”or is it shrewdness?u00e2u20ac”will continue into 2008. Prosperity has minimal subprime exposure and grew per-share earnings 10% in the third quarter. Zalman also has a proven nose for acquisitions, having completed more than 20 of them over the past decade. A decline in seller market caps would seem to play into his hands.

Even so, Zalman says heu00e2u20acu2122s treading carefully, attempting to dodge troubled assets. While he recently completed a small fill-in acquisition and another deal for six branches, heu00e2u20acu2122s not enthusiastic about what heu00e2u20acu2122s seeing. u00e2u20acu0153Are we going after as many deals as we did in the past? No. Weu00e2u20acu2122re being very selective,u00e2u20ac he says.

A shift in the balance of power between buyers and sellers is at work. The strong economy of the past few years has allowed most banks to prosper, fueling high deal premiums. It hasnu00e2u20acu2122t been unusual to see bank sales priced at three times book value or more; some have surpassed the five-times-book level. u00e2u20acu0153If youu00e2u20acu2122ve been a buyer, youu00e2u20acu2122ve had to acquiesce to almost everything the seller wanted,u00e2u20ac Zalman says.

The sellersu00e2u20acu2122 side argues that no one has forced larger banks to pay those high premiums. And they have a point. But while some high-premium deals have gotten done, many more prospective transactions have been shot out of the water by the unwillingness of sellers to come down in their asking prices.

U.S. Bancorpu00e2u20acu2122s Davis says it hasnu00e2u20acu2122t been uncommon for prospective sellers to quickly back out of deal discussions when they learn a big multiple isnu00e2u20acu2122t in the cards. u00e2u20acu0153One hundred percent of the time when it dies [in the early stages of discussion], the response is, u00e2u20acu02dcAre you kidding? Itu00e2u20acu2122s not worth this much?u00e2u20acu2122u00e2u20ac Davis explains. u00e2u20acu0153Itu00e2u20acu2122s always about pricing, and theyu00e2u20acu2122re always disappointed.u00e2u20ac

The current crisis promises to differentiate strong managements, business models, balance sheets, and boards from the also-rans. In the process, most observers expect the pricing demands of sellers to get ratcheted down a bit. Omni Financialu00e2u20acu2122s Klein says buyers increasingly are demanding prices that take into consideration such factors as what itu00e2u20acu2122s going to take to integrate problem assets into the company and balance sheet. That, in turn, is increasing the pressure on some seller boards to capitulate, which could eventually change the deal stream into a torrent.

u00e2u20acu0153A lot of boards are asking, u00e2u20acu02dcShould we have gotten out eight months ago?u00e2u20acu2122 And the answer probably is, u00e2u20acu02dcYes,u00e2u20acu2122 u00e2u20ac Zalman explains. u00e2u20acu0153The real question now is, u00e2u20acu02dcAre sellers going to be willing to take lower pricing than they would have gotten eight months ago?u00e2u20acu2122 I think theyu00e2u20acu2122re going to have to.u00e2u20ac

Already, signs of diminished seller expectations are emerging in markets such as California and Florida, where real estate troubles have been most severe. In the Sunshine State, u00e2u20acu0153you can buy franchises now with core deposit premiums in the 10% range. Historically, itu00e2u20acu2122s cost 25% to 30%,u00e2u20ac Sandleru00e2u20acu2122s Hickey says. u00e2u20acu0153The price of entry into these markets will be significantly less than it has been in a decade.u00e2u20ac

In November, Atlantau00e2u20acu2122s SunTrust Banks Inc., with $176 billion in assets, capitalized on the troubles of a smaller competitor when it agreed to a $154 million acquisition of $1.9 billion GB&T Bancshares of Gainesville, Georgia. GB&T, which has 32 branches, reported a third-quarter loss of $6.3 million, due to rising loan-loss provisions. That allowed SunTrust to snatch it up for just 0.64 times book value, making it an u00e2u20acu0153unusually attractive and timely opportunity to efficiently expand our Metro Atlanta franchise,u00e2u20ac CEO James Wells III proclaimed. Translation: u00e2u20acu0153GB&T had problems, and that opened the door for a conservative buyer,u00e2u20ac says Senchak, who advised on the deal.

In less distressed regions, however, many seller boards have yet to budge. u00e2u20acu0153Weu00e2u20acu2122re not going to see a wave of deals in the near future, because sellers in most parts of the country are still of a mindset that theyu00e2u20acu2122re worth three times book, because thatu00e2u20acu2122s what a bank sold for in their market two years ago,u00e2u20ac Sandleru00e2u20acu2122s Fitzgibbon says. u00e2u20acu0153Thatu00e2u20acu2122s just not realistic going forward.u00e2u20ac

The dynamics are taking a toll on boards. Jeffery Smith, a partner in the banking and financial services group at Bricker & Eckler LLP in Columbus, Ohio, says the moods of some client boards, already subdued by compliance burdens, have become decidedly gloomy in the face of credit troubles. u00e2u20acu0153I go to board meetings, and where it used to be that people were excited about bringing in new business and expanding, now theyu00e2u20acu2122re worried,u00e2u20ac Smith says.

u00e2u20acu0153Thereu00e2u20acu2122s a lot of stress and strain, a lot of weariness, and in some cases, a growing sense that itu00e2u20acu2122s not worth the effortu00e2u20ac to attempt to fix thorny balance-sheet issues, Smith adds. u00e2u20acu0153Itu00e2u20acu2122s a tough, tough environment on everyone. And it doesnu00e2u20acu2122t stop with directors and executives. It spills over into families and communities.u00e2u20ac

Anecdotal evidence suggests that a growing number of bank boardsu00e2u20ac”especially smaller ones that rely on margins and real estate of one sort or anotheru00e2u20ac”are looking to get out from under their credit problems through a sale. u00e2u20acu0153People are seeing whatu00e2u20acu2122s happened to their stock prices, and thereu00e2u20acu2122s almost a sense of panic out there,u00e2u20ac Vea, Integrau00e2u20acu2122s chairman and CEO, notes.

Zalman says heu00e2u20acu2122s had a steady flow of bankers knocking on his door. But now that heu00e2u20acu2122s completed the aforementioned fill-in acquisition and six-branch deal, he is moving cautiously. u00e2u20acu0153Iu00e2u20acu2122m not seeing any bargains,u00e2u20ac he says, that are prompting him to pick up the pace.

Board members of potential sellers must balance the desire to remain independent against the need to deliver the best returns for shareholders who are growing impatient with the notion of years-long recovery plans, analysts say.

Indeed, they say, those types of deliberations are occurring behind closed doors at many institutions, including some traditionally strong performers. At Umpqua Holdings Corp. in Portland, Oregon, shares were halved after nonperforming assets, heavily weighted in construction and commercial real estate loans, jumped to 113 basis points at the end of the third quarter, from 20 basis points a year earlier.

The $8.2 billion companyu00e2u20acu2122s fast growth and innovative retailing style have made it an industry darling. Now, Keefe, Bruyette & Woods analyst Matthew Clark expects Umpquau00e2u20acu2122s NPAs to continue rising in 2008, and says the company could be sold. u00e2u20acu0153Theyu00e2u20acu2122ve got a very frustrated shareholder base, with lots of institutional investors, and a board thatu00e2u20acu2122s becoming increasingly tired and is aware that itu00e2u20acu2122s going to be difficult to work out of this situation,u00e2u20ac he says.

Smithu00e2u20acu2122s advice to board clients with u00e2u20acu0153the necessary fortitudeu00e2u20ac is that they try to ride out the storm, because deal activity and pricing will be better once buyers gain more comfort with their ownu00e2u20ac”and potential targetsu00e2u20acu2122u00e2u20ac”asset-quality issues. u00e2u20acu0153If you can avoid overreacting and panicking, and can ride out the shareholder and regulatory pressures, you could be better off,u00e2u20ac he says, noting that u00e2u20acu0153selling a car with new tires and a fresh paint job is always easieru00e2u20ac than selling one thatu00e2u20acu2122s in need of repair.

When that kind of clarity will emerge, however, is anyoneu00e2u20acu2122s guess. While some observers predict an industry reboundu00e2u20ac”and corresponding surge in M&A activity and pricing for the second half of the yearu00e2u20ac”others argue that it wonu00e2u20acu2122t come until some time in 2009, at the earliest. u00e2u20acu0153My sense is that weu00e2u20acu2122re in the third or fourth inning of this credit cycle,u00e2u20ac Fitzgibbon says. u00e2u20acu0153Weu00e2u20acu2122re going to see things get a lot worse before they get better.u00e2u20ac

Clearly, many bankers agree. In the third quarter, industry loan-loss provisions jumped to $16.6 billion, the highest level since 1987, and more than double the year-earlier figure of $7.5 billion, according to the FDICu00e2u20ac”an indication that bankers expect more bad news.

u00e2u20acu0153If I were on a board, Iu00e2u20acu2122d be very focused on what my management team is saying about future earnings,u00e2u20ac Hickey says. u00e2u20acu0153How are they going to create value over the next three years? And how does that compare to what might be available in the merger market?u00e2u20ac

Despite the gloomy forecast, deals will still get done in 2008. Some opportunistic buyers will likely attempt to exploit the industryu00e2u20acu2122s shaky situation to bulk up in desirable geographies. San Francisco-based Wells Fargo & Co. has a history of doing fill-in acquisitions of good companies during bad times and has a strong enough balance sheetu00e2u20ac”even with the additional $1.4 billion in loss reserves added in Novemberu00e2u20ac”to absorb a bit of loan trouble, provided the price is good enough to make it accretive. u00e2u20acu0153My sense is that [Wells is] going to be one of the beneficiaries of this turmoil,u00e2u20ac says Jackie Reeves, a managing director for Bell Rock Capital, a Paoli, Pennsylvania investment adviser.

In November, KBW published a list of 21 banks it predicts could be acquired in the next 18 months. The tally includes some obvious takeover candidates, such as Seacoast Banking Corp. of Florida, a $2.3 billion institution headquartered in Stuart thatu00e2u20acu2122s been walloped by the stateu00e2u20acu2122s real estate troubles, and could be attractive to a foreign buyer or one of the big banks looking for a stronger foothold in the state.

Some banks on the list are considered potential takeout targets simply because theyu00e2u20acu2122re attractive. As the third-largest independent in Texas, for instance, Prosperity has high u00e2u20acu0153scarcity value,u00e2u20ac making it u00e2u20acu0153a strong acquisition candidate with many interested buyers,u00e2u20ac which could fetch it a high premium, the KBW report states. Potential bidders include Wachovia Corp., Capital One Financial Corp., and Spainu00e2u20acu2122s BBVA Group, all of which are keen on expanding in the Lone Star State.

u00e2u20acu0153One of those big guys is going to want to be in Texas in a bigger way,u00e2u20ac Zalman says. While Prosperity has a strong management team, those executives own a lot of stock. u00e2u20acu0153If someone offered us a big premium, weu00e2u20acu2122d have to consider it,u00e2u20ac he says.

The story is much the same for Baltimore-based Provident Bankshares Corp., which is the largest independent in Maryland and Virginiau00e2u20ac”a region with a relatively stable economy, due to the U.S. government. According to KBW, bidders for the $6.4 billion institution could include SunTrust Banks, M&T Bank Corp., and Fifth Third Bancorp.

For others, the timing looks right. CEO D. Michael Jones has engineered a strong turnaround at $4.3 billion Banner Corp. in Walla Walla, Washington, and has helped sell three other banks in his career. u00e2u20acu0153Thereu00e2u20acu2122s an imbedded willingness to sell,u00e2u20ac says KBWu00e2u20acu2122s Clark, who notes that the board tried to sell the company several years ago. Wells Fargo and BNP Paribas, the French owner of Bank of the West, could be interested in Banner.

At the smaller-bank level, traditional concerns such as management succession, investor exit strategies, and excessive compliance burdens and costs will fuel some deals. So, too, will investor activism. Activist Lawrence Seidman has taken 6% stakes in two underperforming northeastern institutionsu00e2u20ac”MASSBANK Corp. and Southern Connecticut Bancorp Inc.u00e2u20ac”and is pressing for sales.

u00e2u20acu0153Since almost all of [MASSBANKu00e2u20acu2122s] revenue is from spread income and you make very few loans, I have been trying to ascertain what exactly it is that you do all day,u00e2u20ac Seidman wrote in a scathing August letter to the board. u00e2u20acu0153Do you sit in front of your computer and look at money market yields? Do you play Pong on your Atari machine? u00e2u20acu00a6 Whatever it is, youu00e2u20acu2122re not doing anything to build shareholder value.u00e2u20ac

Observers are split on the potential of a blockbuster or two occurring in 2008. The KBW list includes just one top-10 bank, SunTrust, as a candidate, with JPMorgan Chase & Co. and Wells Fargo as the most likely buyers. Donu00e2u20acu2122t count on the latter, however. Wells CEO John Stumpf calls the idea of any large-bank dealu00e2u20ac”especially one outside of his companyu00e2u20acu2122s western-state footprintu00e2u20ac”u00e2u20acu0153highly unlikely.u00e2u20ac

Other possibilities include an in-market merger-of-equals in the overbanked, slow-growth Midwest. u00e2u20acu0153Pick any combination of the Ohio banksu00e2u20ac”KeyCorp, Huntington [Bancshares], National City, Fifth Third,u00e2u20ac Sandleru00e2u20acu2122s Hickey says. These would be u00e2u20acu0153lower-premium, strategic dealsu00e2u20ac aimed at creating efficiencies.

Many believe foreign buyers will leverage the dollaru00e2u20acu2122s weakness to beef up their stateside operations. u00e2u20acu0153Weu00e2u20acu2122re going to see greater activity from foreign banks,u00e2u20ac including BBVA, Santander, Paribas, and the Royal Bank of Scotland, owner of Providence, Rhode Island-based Citizens Financial Group, Hickey says. One hot rumor has Canadau00e2u20acu2122s BMO Financial Group, owner of the Bank of Montreal and Chicagou00e2u20acu2122s Harris Bank, interested in Wayzata, Minnesota-based TCF Financial Corp.

While those types of deals might occur, look for a slower year. In a telling illustration of how the mortgage mess has impacted the market, Washington Mutual Inc.u00e2u20ac”a regular in recent years on lists of potential takeover targetsu00e2u20ac”no longer is considered a viable acquisition candidate. Seattle-based WaMu warned that it probably will need to set aside more than $1 billion in both the fourth and first quarters to buffer against rising charge-offs. u00e2u20acu0153Thereu00e2u20acu2122s only a select number of institutions that could buy them, and right now itu00e2u20acu2122s not clear who would want them,u00e2u20ac Clark says.

A likely scenario offered by one investment banker: $330 billion WaMu addresses most of its credit issues and regains its balance sheet health by 2009, but is so weakened by the write-downs that it falls prey to a big buyer eager to own its 2,700-branch retail network.

In the end, the seeds of turmoil planted in 2007 could spark a big M&A wave and subtly remake the face of the industry by weeding out the weakest players. u00e2u20acu0153Itu00e2u20acu2122s a Hobbesian world,u00e2u20ac Sullivan & Cromwellu00e2u20acu2122s Cohen says. u00e2u20acu0153There clearly will be winners and losers before weu00e2u20acu2122re done, and there will be opportunities to acquire for those that have done the best.u00e2u20ac How long it takes to arrive at this new reality remains to be seen.