To Be, or Not to Be

After a burst of bank mergers and acquisitions in 1998, there was relative quiet during 1999, leading some to speculate that the bank consolidation boom is winding down. That ultimately may be true, but probably not before at least one more surge in 2000, the last year that the preferred pooling-of-interests method will be available for valuing bank acquisitions.As of December 31, 2000, the pooling method will be eliminated as an optional method of accounting for bank acquisitions, dramatically affecting sale prices and related premiums. In a race to take advantage of the pooling method before this window of opportunity closes, buyers are once again busy scouting for potential takeover candidates, ranging in size from the smallest community banks to the largest multistate banking companies.Also fueling this year`s predicted surge in mergers and acquisitions in the banking industry are several interrelated competitive influences, including the advent of Internet banking, the adoption of technology-enabled customer relationship management strategies, and the enactment of the financial modernization law, the Gramm-Leach-Bliley Act.And let us not forget the various personal and economic reasons that often affect merger and acquisition decisions. Many bank CEOs and owners are asking themselves whether they have the desire, the resources, and the wherewithal to compete and manage change in the financial services industry of the future.Numerous considerations go into the decision to buy or sell a bank. Either decision can be the right one if made with an accurate assessment of your bank`s present situation, a grasp of bank valuation issues, and a clear vision of how competition, technology, and new bank powers will affect your institution in the future.

Valuation considerations

Eliminating the pooling-of-interests accounting method will likely have a negative impact on near-term bank valuations. Acquirers no longer will be able to pay substantial premiums because they will have to recognize and amortize goodwill, thus reducing reported earnings, which in turn may depress the market valuation of their stocks.In addition, as acquirers begin to book goodwill, their risk-based capital ratios will inevitably suffer. Institutions that have grown through an acquisition strategy will no longer be able to do multiple deals each year without worrying about how the regulators will view their resulting ratios. And although issuing new stock as consideration can reduce the effect of the new goodwill, only disciplined buyers will be able to maintain their risk-based capital ratios at a steady level. As a result of all of these factors, a frenzy of merger activity is possible in 2000 as buyers and sellers try to beat the yearend deadline. Bankers who are considering a sale may conclude that prices are not going to go any higher. At the same time, many publicly traded acquirers will realize that purchase accounting may hinder their future growth plans, prompting them to rush to complete as many pooling deals as they can before the accounting change is adopted.

Competitive considerations

Accounting methodology is not the only force driving another potential surge in bank merger and acquisition activity. Several trends and events continue to transform the nature of competition in the financial services industry.Financial modernization. The Gramm-Leach-Bliley Act, enacted in November 1999, delivered financial services modernization to the banking industry. The new law gives banks a wide degree of latitude to engage in any activities deemed financial in nature through a variety of organizational structures, including financial holding company affiliates, bank and nonbank subsidiaries, or joint ventures with other organizations. New activities will be added to this list in time, and banks will be able to engage in other incidental banking activities and complementary nonfinancial activities in the near future. This statutory framework gives banks many new structural options for expanding their suite of financial products and services. As banking organizations seek to attain the talent and critical mass needed to thrive in the post-Gramm-Leach-Bliley era, they will be acquiring both banks and nonbanking businesses, such as insurance agencies and securities brokerage firms. Henceforward, banking industry merger and acquisition activity will encompass not just banking organizations but other kinds of businesses as well, resulting in a convergence of financial services providers under the same organizational umbrella. Will community banks be able to avail themselves of these new opportunities? The answer is yes. In removing the outmoded, Depression-era restrictions on banks, the financial modernization law has given banks of all sizes a wide variety of options to structure their organizations to meet their customers` changing financial services needs. Some of the new powers, such as municipal revenue bond underwriting, are specifically tailored to the scale and local nature of small banks. The law also gives community banks new sources of funding. Thus, even smaller financial institutions will have the ability to ride the dual wave of convergence and consolidation sweeping the banking industry.Internet banking. Every business model is changing to adapt to the growing acceptance of the Internet and e-commerce, and banking is no exception. As the 21st century unfolds, Internet banking will become the way that virtually all financial services are delivered. By reducing many financial products and services to a point and click, Internet banking will profoundly affect financial institution pricing and profits.For instance, interest margins and fee income on traditional bank products, such as deposits, loans, and checking accounts, will be driven down. Bill paying is likely to become an expected element of banking services, and financial institutions may ultimately provide it free, despite the costs, simply to retain customers. In addition, there is a growing realization among bank customers of the commodity nature of many banking services and that their access to banks is no longer circumscribed by place and time. This attitude, combined with customers` widening acceptance of the Internet as an information and transaction tool, are driving basic changes in banking faster than any of us can imagine.A bank with a physical presence in the local market still has a distinct advantage over a distant institution with an active Web site or a passive Internet bank. Capitalizing on that advantage, however, means actually embarking on an Internet banking strategy. Watching from the sidelines is no longer an option in the intensely competitive and technology-driven financial services marketplace.Customer relationship management. Also made possible by advancements in information technology is customer relationship management. CRM is a customer-centric business strategy that harnesses information technology to discover and anticipate customers` financial needs and engages all the business units in the enterprise in satisfying those needs. Using both internal and external data to identify the enterprise`s most profitable customers and prospects, CRM devotes time and attention to expanding account relationships with those customers through individualized marketing, repricing, discretionary decision making, and customized service.For many banks, adopting a CRM strategy will involve turning their business almost literally inside out to put profitable customers at the center of the hub of the organization`s business activities. All service and delivery channels will be integrated, sales goals will be set across product lines, and employees will be empowered to make pricing and customer service decisions. The focus of everyone`s energy will be on putting additional products in the hands of the bank`s most profitable customers.Fortunately, technology is a relatively egalitarian tool. Even small banks can leverage computer technology to gather, catalog, and analyze customer information-information that they already own. The question for bankers mulling over the decision of whether to sell the bank or acquire new institutions or businesses is how committed are they to building integrated customer databases on a technology platform that can leverage information at various customer touch points? The technology does not necessarily have to be expensive, but the need to employ the information within the bank`s pricing, customer service, and other business strategies must be inculcated throughout the organization.For some banks, acquiring an organization that already has CRM capability may be an option. Whatever the approach, it is clear that banks will have a hard time competing in the future unless they harness the power of customer information technology to more precisely focus their customer service and relationship-building efforts.

Personal and economic considerations

Is now the time to build, acquire, or sell? Making these momentous decisions is not only a strategic determination but also a personal and economic choice for bank CEOs and major shareholders.The objective factors, in some ways, are easier to analyze. What is the earnings outlook for the bank or for a potential acquisition? What is its capacity for growth? What price is reasonable to expect? Does management have the depth to steer the organization successfully into the future? Is there a commitment to making the necessary investments in new technology and building a sales culture? Is the organization prepared to manage change and adopt CRM and Internet banking strategies? Is the organization positioned to take advantage of the new powers granted by the Gramm-Leach-Bliley Act?The answers to these questions will help determine whether the bank will be capable of competing effectively in the financial services marketplace of the future. If so, then an acquisition and business expansion strategy might make sense.If not, perhaps it`s time to sell the bank. That`s when the decision becomes more personal. In the case of a pending retirement, the CEO/owner might not want to entrust a major portion of his or her net worth to the bank`s management team. Selling starts to make even more sense if no family member wants to step in to manage the bank. Even the fun factor deserves contemplation. Is owning and managing the bank still rewarding, both personally and professionally?Perhaps the decision comes down to obtaining achievable selling prices and their consequences for the CEO/owner`s personal financial security. The prices of virtually all banks have increased dramatically over the past five years, notwithstanding the past year`s declines. Almost without exception, more than one interested buyer is ready to bid competitively for every bank out there. As previously noted, this favorable environment will likely subside when the FASB accounting change goes into effect.

Looking ahead

Ultimately, deciding whether to sell the bank depends on the owner`s perception about the future of the institution. It is extremely important for bankers to be aware of their options so that they can determine the best course for their institutions.If you decide to tackle the challenges of the future, you have at your disposal new statutory authorities, innovative technology applications, and evolving business models to help you succeed. Taking decisive action on the sales and marketing front, coupled with tightening credit standards, will be a long-term winning combination for many banks. If, on the other hand, you decide to sell, the window of opportunity is still open. |BD|

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