Recommendations for Banks Prepping for LIBOR Transitions, Updated Timelines

While much of the focus this summer was on Covid-19, the decline in GDP and the fluctuating UE rates, some pockets of the market kept a different acronym in the mix of hot topics.

Regulators, advisors and trade groups have made significant movement and provided guidance to help banks prepare for the eventual exit of the London Interbank Offered Rate, commonly abbreviated to LIBOR, at the end of 2021. These new updates include best practice recommendations, updated fallback language for loans and key dates to no longer offer new originations in LIBOR.

Why does this matter to community banks? Syndicated loans make up only 1.7% of the nearly $200 trillion debt market that is tied to LIBOR — a figure that includes derivatives, loan, securities and mortgages. Many community banks hold syndicated loans on their balance sheets, which means they’re directly affected by efforts to replace LIBOR with a new reference rate.

A quick history refresher: In 2014, U.S. federal bank regulators convened the Alternative Rates Reference Committee (ARRC) in response to LIBOR manipulation by the reporting banks during the financial crisis. A wide range of firms, market participants and consumer advocacy groups — totaling about 1,500 individuals — participate in the ARRC’s working groups, according to the New York Federal Reserve. The ARRC designated the Secured Overnight Financing Rate (SOFR) as a replacement rate to LIBOR and has been instrumental in providing workpapers and guidelines on SOFR’s implementation.

In April 2019, the ARRC released proposed fallback language that firms could incorporate into syndicated loan credit agreements during initial origination, or by way of amendment before the cessation of LIBOR occurs. The two methods they recommended were the “hardwired approach” and the “amendment approach.” After a year, the amendment approach was used almost exclusively by the market.

In June 2020, the ARRC released refreshed Hardwired Fallbacks language for syndicated loans. The updates include language that when LIBOR ceases or is declared unrepresentative, the-LIBOR based loan will “fall back” to a variation of SOFR plus a “spread adjustment” meant to minimize the difference between LIBOR and SOFR. This is what all other markets are doing and reduces the need for thousands of amendments shortly after LIBOR cessation.

In addition, the ARRC stated that as of Sept. 30, lenders should start using hardwired fallbacks in new loans and refinancings. As of June 30, 2021, lenders should not originate any more loans that use LIBOR as an index rate.

As the market continues to prepare for LIBOR’s eventual exit, BancAlliance recommends banks take several steps to prepare for this transition:

  • Follow the ARRC’s recommendations for identifying your bank’s LIBOR-based contracts and be aware of the fallback language that currently exists in each credit agreement. Most syndicated loans already have fallback language in existing credit agreements, but the key distinction is the extent of input the lenders have with respect to the new rate.
  • Keep up-to-date with new pronouncements and maintain a file of relevant updates, as a way to demonstrate your understanding of the evolving environment to auditors and regulators.
  • Have patience. The new SOFR-based credit agreements are not expected until summer 2021 at the earliest, and there is always a chance that the phase-out of LIBOR could be extended.

FinXTech Special Report: Mobile Banking

Mobile-Report.pngIn September 2017, Amazon.com’s patent for “1-Click” checkout lapsed. It was a foundational moment in e-commerce. Waves of digital retailers streamlined their purchasing processes. The moment reframed customer expectations. And meeting those expectations became a matter of survival.

Simplifying the checkout process, Amazon chairman and CEO Jeff Bezos believed, would reduce cart abandonment and increase conversion rates — the percentage of shoppers who complete the purchasing process. Cart abandonment is a huge problem in retail, where an estimated 69.5% of digital carts go unclaimed.

Online merchants of books and sweaters aren’t the only businesses that need to care about this; banks do too.

Customer expectations are fluid, flowing from one industry to the next. Amazon and other tech giants set the standard for the digital experience; banks and other companies must now follow it. Customers expect to acquire their new credit card as easily as they can download the latest Taylor Swift album.

Banks may not obsess about cart abandonment and conversion rates to the extent that other e-commerce companies do, but the same concepts apply to making loans and attracting deposits over digital channels. That’s why the principles of modern design are so important. Taking cues from companies like Amazon isn’t just a best practice; increasingly, it’s a matter of success and failure.

Nowhere is design more important than on mobile devices, which have emerged as the primary channel banks use to serve customers and is the purpose of this FinXTech Intelligence Report, Mobile Banking: How Leading Banks Make Modern Apps That Drive Sales.

The report unpacks mobile bank design: why an attractively designed experience will be critical to growing engagement, and the processes that have guided regional and community banks in creating their respective apps. It includes:

  • The rise of mobile banking
  • An overview of key features and functions
  • How modern design affects usability
  • Q&A with USAA’s chief design officer
  • A digital checklist to evaluate a bank’s offerings and approach

To learn more, download our FinXTech Intelligence Report, Mobile Banking: How Leading Banks Make Modern Apps That Drive Sales.

To access our earlier report on APIs, click here.

FinCEN Files: What Community Banks Should Know

Big banks processed transactions on the behalf of Ponzi schemes, businesses accused of money laundering and a family of an individual for whom Interpol had issued a notice for his arrest — all while diligently filing suspicious activity reports, or SARs.

That’s the findings from a cache of 2,000 leaked SARs filed by banks such as JPMorgan Chase & Co, Bank of America Corp., Citibank and American Express Co. to the U.S. Treasury Department’s Financial Crimes Enforcement Network, or FinCEN. These files, which media outlets dubbed the “FinCEN Files,” encompassed more than $2 trillion in transactions between 1999 and 2017.

Community banks, which are also required to file SARs as part of Bank Secrecy Act/anti-money laundering laws, may think they are exempt from the scrutiny and revelations applied to the biggest banks in the FinCEN Files. Not so. Bank Director spoke with two attorneys that work with banks on BSA/AML issues for what community banks should take away from the FinCEN Files.

Greater Curiosity
Community banks should exercise curiosity about transaction trends in their own SARs that may add up to a red flag — whether that’s transaction history, circumstances and similarities to other cases that proved nefarious. Banks should ask themselves if these SARs contain details that indicated the bank should’ve done something more, such as not complete the transaction.

“That is probably the biggest go-forward lesson for banks: Make sure that your policies and procedures are such that — when someone is looking at this in hindsight and evaluating whether you should have done something more — you can demonstrate that you had the proper policies and procedures in place to identify when something more needed to be done,” says James Stevens, a partner at Troutman Pepper.

Although it may be obvious, Stevens says banks should be “vigilantly evaluating” transactions not just for whether they merit a SAR, but whether they should be completed at all.

Size Doesn’t Matter
When it comes to BSA/AML risk profiles and capabilities, Stevens says size doesn’t matter. Technology has leveled the playing field for many banks, allowing smaller banks to license and access the capabilities that were once the domain of larger banks. It doesn’t make a difference in a bank’s risk profile; customers are its biggest determinant of a bank’s BSA/AML risk. Higher-risk customers, whether through business line or geography, will pose more risk for a bank, no matter its size.

But banks should know they may always be caught in between serving customers and regulatory activity. Carleton Goss, counsel at Hunton Andrews Kurth, points out that changing state laws mean some financial institutions can serve cannabis businesses that are legal in the state but still need to file SARs at the federal level. Banks may even find themselves being asked by law enforcement agencies to keep a suspicious account open to facilitate greater monitoring and reporting.

“There’s definitely a tension between serving customers and preventing criminal activity,” he says. “You don’t always know the extent of the activities that you’ve reported — the way the SAR reporting obligation is worded, you don’t even have to be definitively sure that a crime has occurred.”

“Front Page of the Newspaper” Test
Reporting in recent years continues to cast a spotlight on BSA/AML laws. Before the FinCEN Files, there was the 2016 Panama Papers. Stevens says that while banks have assumed that SARs would remain confidential and posed only legal or compliance risk, they should still be sensitive to the potential reputational risks of doing business with certain customers — even if the transactions they complete for them are technically compliant with existing law.

Like everything else we do, you have to be prepared for it to be on the front page of the newspaper,” he says.

Media reports mean that regulatory pressure and public outrage could continue to build, which could heighten regulatory expectations.

“Whenever you see a large event like the FinCEN files, there tends to be pressure on the regulators to ‘up their game’ to avoid giving people the perception that they were somehow asleep at the wheel or missed something,” Goss says. “It would be fair for the industry to expect a little bit more scrutiny than they otherwise would on their next BSA exam.”

How Innovative Banks Capitalize on Cryptocurrency

This summer, three new developments in the relationship between banks and cryptocurrency players signaled a shift in attitudes toward digital assets.

In May, JPMorgan Chase & Co. began providing banking services to leading crypto exchanges Coinbase and Gemini Trust Co., — a notable change given that Chairman and CEO Jamie Dimon called the seminal cryptocurrency Bitcoin “a fraud” just three years ago. In July, the acting comptroller for the Office of the Comptroller of the Currency, Brian Brooks — who served as the chief legal officer for Coinbase prior to his appointment — released an interpretation letter confirming that financial institutions can bank cryptocurrency clients and could even serve as digital asset custodians. And this month, the popular crypto exchange Kraken secured a special purpose banking charter in Wyoming, marking the first time a crypto company gained banking powers, including direct access to payment rails.

Cryptocurrency is gaining wider acceptance as a legitimate commercial enterprise. But, like other money services businesses, these companies still find it difficult to obtain basic banking services. This is despite the fact that crypto is becoming more mainstream among consumers and in the financial markets. The industry is booming with a market capitalization equivalent to over $330 billion, according to CoinMarketCap, but it’s currently served by just a handful of banks.

The best-known institutions playing in the cryptocurrency space are New York-based Signature Bank and Silvergate Capital Corp., the parent company of La Jolla, California-based Silvergate Bank.

Signature’s CEO Joseph DePaolo confirmed in the company’s second-quarter earnings call that $1 billion of the bank’s deposits in quarter came from digital asset customers. And at just $1.9 billion in total assets, Silvergate Bank earned over $2.3 million in fees in the second quarter from its crypto-related clients. These gains weren’t from the activity taking place on the banks’ respective payment platforms. They came from typical commercial banking services — providing solutions for deposits, cash management and foreign exchange.

One community bank hoping to realize similar benefits from banking crypto businesses is Provident Bancorp. The $1.4 billion asset institution based in Amesbury, Massachusetts, which recently rebranded as BankProv, aims to treat crypto companies as it would any other legal commercial customer. Crypto customers may have heightened technology expectations compared to other clients, and present heightened compliance burdens for their banks. But the way CEO David Mansfield sees it, these are all things BankProv needs to address anyway.

It really pushes traditional, mainstream corporate banking to the next level,” he explains, “so it fits with some of our other strategic goals being a commercially focused bank.”

Before BankProv launched its digital asset offering, it did a lot of groundwork.

The bank revamped its entire Bank Secrecy Act program, bringing in experts to help rewrite procedures and new technology partners like CipherTrace to provide blockchain analytics and transaction monitoring. It retooled its ACH offerings, establishing a direct connection with the Federal Reserve and expanding its timeframe for processing transactions to better serve clients on the West coast. And BankProv’s team met with crypto-related businesses for insights about what they wanted in a bank partner, which led the bank to upgrade its API capabilities. BankProv is working with San-Francisco-based fintech Treasury Prime to make it possible for crypto clients to initiate transactions directly, instead of going through an online banking portal.

At the same time, BankProv made plans for handling the new deposits generated by the business line; crypto-related companies often experience more volatility in market fluctuations than typical commercial clients.

“It’s definitely top of the regulator’s mind that they don’t want to see you using these funds to do long-term lending,” Mansfield says.

For BankProv, part of managing these deposits is deploying them toward the bank’s mortgage warehouse lending business; those loans are short-term, maturing within seven to 15 days. “[Y]ou need to find a good match on the asset side,” Mansfield explains, “because just having [deposits] sit in Fed funds at 10 basis points doesn’t do you much [good] right now.”

While BankProv officially announced that it would begin servicing digital asset customers in July 2019, the onset of Covid-19 made it difficult to get the program into full swing until recently. With travel being severely limited, BankProv made it a priority to hire new business development talent earlier this month that came with a pre-existing Rolodex of crypto contacts. The digital asset business hasn’t appeared in the company’s 2020 earnings releases so far.

Banking crypto-related clients will only make sense for some of the most forward-thinking banks; but for those that are successful in the space, the upside is significant. Mansfield believes BankProv has the attributes needed to thrive as a part of the crypto community.

“You have to be open minded and a little innovative. [I]t’s certainly not going to be right for the vast majority of banks,” he says, “and I think that’s why there’s really only two that are dominating the space right now. But I feel there’s at least room for a third.”

Community Risks That Community Banks Should Address

States and counties are starting to reopen after a prolonged period of sheltering in place due to the Covid-19 pandemic.

Many community banks that function as the primary lenders to small businesses in the rural Midwest have yet to see a significant negative financial impact because of the shutdown. In fact, many community banks stand to receive significant loan origination fees from the U.S. Small Business Administration for participating in the Paycheck Protection Program. They’re also flush with cash, report the community bank CEOs I’ve asked, as many borrowers haven’t used their PPP loan funds and consumers have been holding their stimulus payments in their checking accounts.

But just because things look stable from a financial perspective doesn’t mean there isn’t risk in your community and to your bank. Let’s take a brief look at some issues community banks should be monitoring today:

Increasing personal debt caused by prolonged unemployment. Unemployed Americans received an unprecedented amount of unemployment benefits that for the most part ended on July 31, 2020. What are Americans doing now? Some furloughed employees have been recalled, but others weren’t. When income is scarce, the use of credit cards, overdraft protection, and personal loans increases. What is your bank doing to monitor the increasing financial pressure of your individual borrowers and account holders?

Delayed business closures. Small businesses without a significant online presence are finding it difficult to operate in this new environment. “Nonessential” small businesses survived the shutdown by using government funds, furloughing employees, drawing on credit lines, or using personal savings. The lost sales may not have been deferred to a later date. Instead, they are truly lost and won’t be recaptured. Without a fast and heavy recovery for small businesses, they may be forced to close and may not be able to support their current debt load. How is your bank monitoring the performance of your small business customer?

Reduced need for office and retail space. With the increase in employees working remotely, especially at businesses that typically use commercial office space, the perceived need for office space is declining. Once a lease term expires, community banks should expect some commercial borrowers to experience reduced rental income as tenants negotiate for less square footage or overall lower rates. Are you tracking the going rate for rent per square foot in your market?

Increased fraud risk. When people experience all three sides of the fraud triangle (rationalization, opportunity, and pressure), they’re more likely to commit fraud. Identification of the fraud can be significantly delayed. A bookkeeping employee whose spouse has been laid off can rationalize the need for the company’s money, has the opportunity to take it, and feels the financial pressure to use it for personal needs. This person may be able to cover it for a short time; but, covering it becomes more difficult as it grows. That can happen within the bank or at any of your commercial borrowers.

Community banks have yet to see a dramatic increase in past dues or downgrades in loan ratings; it’s likely too early to see the financial stress. Several community banks are adding earmarked reserves to the allowance for loan losses in each loan category as “Covid-related.” However, community banks should carefully evaluate loans that were “on the bubble” prior to the shutdown, were granted some form of deferral by the bank, or are in certain industries like hospitality. Interagency guidelines permit banks to not account for these loans as troubled debt restructures (TDR) if they meet certain criteria, but banks are still responsible for maintaining a proper allowance. A loan in deferral may need an increased reserve, even if it isn’t accounted for as a TDR. The time it takes for that stress to show (called “loss emergence period” in accounting) is longer than many think.

Two other significant financial impacts to banks relate to overdraft fees and interchange fees. As spending decreased, so did overdrafts and associated fee income. And without the discretionary debit card swipes, interchange fees fell significantly as well.

How much of the above information will you use as you prepare the 2021 budgets this fall? What will your baseline for 2021 be: 2019 or 2020? Regardless, assess the risks to the bank and plan accordingly.

This article is for general information purposes only and is not to be considered as legal advice. This information was written by qualified, experienced BKD professionals, but applying this information to your particular situation requires careful consideration of your specific facts and circumstances. Consult your BKD advisor or legal counsel before acting on any matter covered in this update.

Why Two Community Banks Raised Debt to Repurchase Shares

The coronavirus pandemic has motivated some banks to raise capital and others to repurchase shares.

Two banks opted to do both.

These institutions recently paired subordinated debt raises to buy back discounted shares in immediately accretive transactions. Leadership of both banks attribute the pair of opportunities — and the pricing they were able to obtain — to the pandemic, and other community banks could make a similar trade.

What had happened was a perfect storm of an opportunity to buy back at a pretty good discount because of the Covid-19 impact on financial stocks, and the popularity or the market that had developed for subordinated debt,” says Paul Brunkhorst, CEO of Crazy Woman Creek Bancorp in Buffalo, Wyoming.

The bank constructed a twofer trade that would leverage investors’ demand for yield while capitalizing on the persistent discount in its shares. Brunkhorst reached out to a larger in-state financial institution about a $2 million private placement of its subordinated debt at a 5% rate; he says the direct placement kept pricing low for the $138 million bank. Crazy Woman Creek then repurchased 15% of its outstanding common stock. The transactions were included in the same Aug. 18 release.

“It wasn’t taken lightly. We are affecting shareholder value in a positive manner. We’re also incurring this debt, so we better be darn sure of the capital position, the asset quality and the regional economy,” he says. “We were comfortable going after the subordinated debt with the primary reason of repurchasing those shares.”

Executives at Easton, Maryland-based Shore Bancshares decided to pad robust capital levels with an additional $25 million in subordinated debt as “safety capital” at the end of August.

So far, the safety capital hasn’t been needed. Second loan modification requests declined to about 10%, and the $1.7 billion bank has yet to experience defaults. Management decided to deploy $5.5 million of those newly raised funds toward restarting its halted share repurchase program at the beginning of September.

The repurchase, which required sign off from the Federal Reserve, was immediately accretive to tangible book value. If fully exercised, the buyback would reduce share count by 4.5%.

When you can buy stock back at 60% or 70% of tangible book, that’s probably the best thing you could ever do for your shareholders,” says CEO Lloyd “Scott” Beatty Jr. “In terms of rewarding them, I can’t think of a better way to do it.”

Both executives say shareholders have been pleased with the buyback announcements. They also found the capital raise to be straightforward and relatively quick, with healthy demand and pricing. Brunkhorst says he’s surprised more banks haven’t cut out the middleman to solicit demand and conduct their own private placements. It was Shore’s first time raising sub debt; its offering carried a rating from Kroll Bond Rating Agency and a price of 5.38%.

“I would say probably if you’re thinking about [raising capital], I’d get out there as soon as possible. There’s a lot of activity in this,” Beatty says. “I’d be inclined to pick your investment banker and get out and enter the market as quickly as you can.”

Coronavirus Makes Community Count in Banking

In the face of an economic shutdown triggered by the coronavirus pandemic, small banks stepped up in a big way to ensure local businesses received government aid.

Over the past 50 years, the American community bank has become a threatened species. Yet these institutions rose to the occasion amid the coronavirus-induced economic shutdown. The Small Business Administration reported that 20% of loans made in the first round of the Paycheck Protection Program, were funded by banks with less than $1 billion in assets, and 60% were funded by banks with less than $10 billion in assets. In total, the first round of lending delivered $300 billion to 1.7 million businesses.

There were just 5,177 bank or savings institutions insured by the Federal Deposit Insurance Corp at the end of 2019 —a fraction of the 24,000 commercial banks in the U.S. in 1966. The majority of these institutions were local, community banks, some with only a single branch serving their market. But over the past 25 years, the banking industry has increasingly become the domain of large conglomerates that combine commercial banking, retail banking, investment banking, insurance, and securities trading under one roof.

Technology has accelerated this consolidation further as consumers select the institutions they can most easily access through their smartphone. Deposit market share tells this story most starkly: in 2019, over 40% of total assets were held by the four largest banks alone. From 2013 to 2017, total deposits at banks with assets of less than $1 billion fell by 7.5%.

Despite that erosion, small banks were willing and able to help hurting businesses. After the dust settled from the initial round of PPP loans, many of the nation’s largest banks faced lawsuits alleging they prioritized larger, more lucrative loans over those to small businesses with acute need.

Community banks filled in the gaps. USA Today reported that a food truck business with a long relationship with Wells Fargo & Co., but couldn’t get a banker on the phone during the second round of PPP. Instead, Bank of Colorado, a community bank in Fort Collins, Colorado, with about $5 billion in assets, funded their loan.

Another one of those banks, Evolve Bank & Trust, an institution with about $600 million in assets based in Memphis, Tennessee, answered the calls of customers and non-customers alike. Architecture firm Breland-Harper secured a loan through Evolve; firm principal Michael Breland the called the funds “crucial in meeting payroll.” Special education program The Center for Learning Unlimited was turned away at 15 banks for a PPP loan. Evolve funded their loan within days.

The coronavirus pandemic has proven two things for small financial institutions. First, community still counts — and it may expand beyond a bank’s local community. A bank’s willingness to work with small businesses and organizations proved to be the most important factor for many businesses seeking loans. Small banks were willing and able to serve these groups even as the nation’s biggest bank by assets, JPMorgan Chase & Co., reportedly advised many PPP loan applicants to look elsewhere at some points.

As big banks grow bigger, their interest in and ability to serve small businesses may fade further. The yoga studio, the restaurant and the small business accounting firm, may be best served by a community bank.

Second, community banks were empowered by technology. Technology is a lever with which big banks pried away small bank customers, but it was also crucial to small banks’ success amid the PPP program. Because of the pandemic many small banks accelerated innovation and digital solutions. During the crisis, Midwest BankCentre, a community bank in St. Louis with $2.3 billion in assets, fast-tracked the implementation of digital account openings for businesses, something they did not have in place previously.

By tapping tools created by fintech companies, small banks can use technology to support their efforts to assist the nation’s small businesses during and beyond these uncertain times.

Community Banks Are Buying Back Stock. Should You?

Banks are making lemonade out of investors’ lemons — in the form of buybacks.

Fears about how the coronavirus will impact financial institutions has depressed bank valuations. A number of community banks have responded by announcing that they’ll buy back stock.

Bank Director reached out to Eric Corrigan, senior managing director at Commerce Street Capital, to talk about why this is happening.

The Community Bank Bidder
Much of the current buyback activity is driven by community banks with small market capitalizations. The median market cap of banks announcing new buybacks now is $64 million, compared to a median of $377 million for 2019, according to an Aug. 27 report from Janney Montgomery Scott.

One reason community banks might be buying back stock now is that their illiquid shares lack a natural bidder — a situation exacerbated by widespread selling pressure, Corrigan says. By stepping in to buy its own stock, a bank can help offset the absence of demand.

“You can help support it or at least mitigate some of the downward pressure, and it doesn’t take a lot of dollars to do that,” he says.

Buybacks Are Accretive to Tangible Book Value
Many bank stocks are still trading below tangible book value. That makes share buybacks immediately accretive in terms of both earnings per share and tangible book value.

“If you can buy your stock below book value, it’s a really attractive financial trade. You are doing the right thing for shareholders, you’re supporting the price of the stock, and financially it’s a good move,” Corrigan says.

Buying Flexibility
Share buyback announcements are a statement of intention, not a promise chiseled in stone. Compared to dividends, buybacks offer executives the flexibility to stop repurchasing stock without raising concerns in the market.

“If you announce a buyback, you can end up two years later with exactly zero shares bought,” Corrigan says. “But you signaled that you’re willing, at a certain price under certain circumstances, to go out there and support the stock.”

Buybacks Follow Balance Sheet Bulk-Up
Many of the nation’s largest banks are under buyback moratoriums intended to preserve capital, following the results of a special stress test run by the Federal Reserve. Banks considering buybacks should first ensure their balance sheets are resilient and loan loss provisions are robust before committing their capital.

“I think a rule around dividends or buybacks that’s tied to some trailing four-quarter performance is not the worst thing in the world,” he says. “The last thing you want to do is buy stock at $40 and have to issue it at $20 because you’re in a pinch and need the equity back.”

Many of the banks announcing repurchase authorizations tend to have higher capital levels than the rest of the industry, Janney found. The median total common equity ratio for banks initiating buybacks in 2020 is about 9.5%, compared to 9.1% for all banks.

Why a Buyback at All?
A stock price that’s below the tangible book value can have wide-ranging implications for a bank, impacting everything from a bank’s ability to participate in mergers and acquisitions to attracting and retaining talent, Corrigan says.

Depressed share prices can make acquisitions more expensive and dilutive, and make potential acquirers less attractive to sellers. A low price can demoralize employees receiving stock compensation who use price as a performance benchmark, and it can make share issuances to fund compensation plans more expensive. It can even result in a bank taking a goodwill impairment charge, which can result in an earnings loss.

Selected Recent Share Repurchase Announcements

Bank Name Location, Size Date, Program Type Allocation Details
Crazy Woman Creek Bancorp Buffalo, Wyoming
$138 million
Aug. 18, 2020
Authorization
3,000 outstanding shares,
or ~15% of common stock
PCSB Financial Corp. Yorktown Heights, New York
$1.8 billion
Aug. 20, 2020
Authorization
Up to 844,907 shares, or
5% of outstanding common stock
First Interstate BancSystem Billings, Montana
$16.5 billion
Aug. 21, 2020
Lifted suspended program
Purchase up to the remaining
~1.45 million shares
Red River Bancshares Alexandria, Louisiana
$2.4 billion
Aug. 27, 2020
Authorization
Up to $3 million of outstanding shares
Investar Holding Corp. Baton Rouge, Louisiana
$2.6 billion
Aug. 27, 2020
Additional allocation
An additional 300,000 shares,
or ~3% of outstanding stock
Eagle Bancorp Montana Helena, Montana
$9.8 billion
Aug. 28, 2020
Authorization
100,000 shares,
~1.47% of outstanding stock
Home Bancorp Lafayette, Louisiana
$2.6 billion
Aug. 31, 2020
Authorization
Up to 444,000 shares,
or ~5% of outstanding stock
Mid-Southern Bancorp Salem, Indiana
$217 million
Aug. 31, 2020
Additional allocation
Additional 162,000 shares,
~5% of the outstanding stock
Shore Bancshares Eston, Maryland
$1.7 billion
Sept. 1, 2020
Restatement of program
Has ~$5.5 million remaining
of original authorization
HarborOne Bancorp Brockton, Massachusetts
$4.5 billion
Sept. 3, 2020
Authorization
Up to 2.9 million  shares,
~5% of outstanding shares

Source: Company releases

Banks Tap Capital Markets to Raise Pandemic Capital

Capital markets are open — for now — and community banks have taken note.

The coronavirus pandemic and recession have created an attractive environment for banks to raise certain types of capital. Executives bracing for a potentially years-long recession are asking themselves how much capital their bank will need to guard against low earnings prospects, higher credit costs and unforeseen strategic opportunities. For a number of banks, their response has been to raise capital.

A number of banks are taking advantage of interested investors and relatively low pricing to pad existing capital levels with new funds. Other banks may want to consider striking the markets with their own offerings while the iron is hot. Most of the raises to-date have been subordinated debt or preferred equity, as executives try to avoid diluting shareholders and tangible book value with common equity raises while they can.

“I think a lot of this capital raising is done because they can: The markets are open, the pricing is attractive and investors are open to the concept, so do it,” says Christopher Marinac, director of research at Janney Montgomery Scott. “Banks are in survival mode right now. Having more capital is preferred over less. Hoarding capital is most likely going to be the norm — even if it’s not stated expressly — that’s de facto what they’re doing.”

Shore Bancshares’ CEO Lloyd “Scott” Beatty, Jr. said the bank is “cautiously optimistic” that credit issues will not be as dire as predicted. But because no one knows how the recession will play out, the bank decided to raise “safety capital” — $25 million in subordinated debt. The raise will grow the bank’s Tier 2 capital and boost overall risk-based capital from 14.1% to about 16%, according to analysts.

If credit issues do not develop, we will be in a position to use this capital offensively in a number of ways to improve shareholder value,” Beatty said in the Aug. 8 release.

That mindset resonates with Rick Weiss, managing director at PNC’s Financial Institutions Group, who started his career as a regulator at the U.S. Securities and Exchange Commission.

“I’ve never seen capital I haven’t liked,” he says. “I feel safer [when banks have higher] capital — in addition to avoiding any regulatory problems, especially in a bad economy, it gives you more flexibility with M&A, expanding your business, developing new lines, paying dividends, doing buybacks. It allows you to keep the door open.”

Raising capital is especially important for banks with thinner cushions. Republic First Bancorp raised $50 million in convertible preferred equity on Aug. 27 — a move that Frank Schiraldi, managing director at Piper Sandler & Co., called a “positive, and necessary, development.” The bank had capital levels that were “well below peers” and was on a significant growth trajectory prior to the pandemic. This raise boosts tangible common equity and Tier 1 capital by 100 basis points, assuming the conversion.

Banks are also taking advantage of current investor interest to raise capital at attractive interest rates. At least three banks were able to raise $100 million or more in subordinated offers in August at rates under 5%.

Lower pricing can also mean refinancing opportunities for banks carrying higher-cost debt; effortlessly shaving off basis points of interest can translate into crucial cost savings at a time when all institutions are trying to control costs. Atlantic Capital Bancshares stands to recoup an extra $25 million after refinancing existing debt that was about to reset to a more-expensive rate, according to a note from Stephen Scouten, a managing director at Piper Sandler. The bank raised $75 million of sub debt that carried a fixed-to-floating rate of 5.5% on Aug. 20.

Selected Capital Raises in August

Name Location, size Date, Type Amount, Rate
WesBanco Wheeling, West Virginia $16.8 billion Aug. 4, 2020
Preferred equity
$150 million 6.75%
Crazy Woman Creek  Bancorp Buffalo, Wyoming
$138 million
Aug. 18, 2020 Subordinated debt $2 million 5% fixed to floating
Republic First Bancorp Philadelphia, Pennsylvania
$4.4 billion
Aug. 19, 2020 Preferred equity $50 million 7% convertible
Atlantic Capital Bancshares Atlanta, Georgia
$2.9 billion
Aug. 20, 2020 Subordinated debt $75 million 5.5% fixed to floating
CNB Financial Clearfield, Pennsylvania
$4.5 billion
Aug. 20, 2020 Preferred equity $60.4 million* 7.125%
Park National Co.       Newark, Ohio
$9.7 billion
Aug. 20, 2020 Subordinated debt $175 million 4.5% fixed to floating
Southern National Bancorp of Virginia McLean, Virginia
$3.1 billion 
Aug. 25, 2020** Subordinated debt $60 million 5.4% fixed to floating
Shore Bancshares Easton, Maryland
$1.7 billion
Aug. 25, 2020 Subordinated debt $25 million 5.375% fixed to floating
Citizens Community Bancorp Eau Claire, Wisconsin $1.6 billion Aug. 27, 2020 Subordinated debt $15 million 6% fixed to floating
FB Financial Nashville, Tennessee $7.3 billion Aug. 31, 2020 Subordinated debt $100 million 4.5% fixed to floating
Renasant Corp. Tupelo, Mississippi
$14.9 billion
Aug. 31, 2020 Subordinated debt $100 million 4.5% fixed to floating

*Company specified this figure is gross and includes the full allotment exercised by the underwriters.
**Date offering closed
Source: company press releases

How Nonbank Lenders’ Small Business Encroachment Threatens Community Banks

A new trend has emerged as small businesses across the U.S. seek capital to ensure their survival through the Covid-19 pandemic: a significantly more crowded and competitive market for small business lending. 

Community banks are best-equipped to meet the capital needs of small businesses due to existing relationships and the ability to offer lower interest rates. However, many banks lack the ability to deliver that capital efficiently, meaning:

  • Application approval rates are low; 
  • Customer satisfaction suffers;  
  • Both the bank and small business waste time and resources; 
  • Small businesses seek capital elsewhere — often at higher rates. 

When community banks do approve small credit requests, they almost always lose money due to the high cost of underwriting and servicing them. But the real risk to community banks is that large players like Amazon.com and Goldman Sachs Group are threatening to edge them out of the market for small business lending. At stake is nothing less than their entire small business relationships.

Over the past few years, nonbank fintechs have infiltrated both consumer and business banking, bringing convenience and digital delivery to the forefront. Owners of small businesses can easily apply for capital online and manage their finances digitally.

Yet in 2018, only 11% of small banks had a digital origination channel for small business lending. In an age of smartphones, community banks still heavily rely on manual, paper-based processes for originating, underwriting and servicing small business loans. 

It was no surprise, then, when Amazon and Goldman Sachs announced a lending partnership geared toward third-party merchants using the retail giant’s platform. Soon, invited businesses can apply for a revolving line of credit with a fixed APR. Other major companies like Apple and Alphabet’s Google have also debuted innovative fintech products for consumers —it’s only a matter of time before they make headway into the small business space.

A 2016 Well Fargo survey found that small business owners are willing to pay more for products and services that make their lives easier. It makes sense that an independent retailer that already sells on Amazon would be more inclined to work with a lender that integrates directly into the platform. If your small business lending program isn’t fully online, customers will take the path of least resistance and work with institutions that make the process easier and more seamless.

Serving small business borrowers better
The issue isn’t that small businesses lack creditworthiness as prospective customers. Rather, it’s that the process is stacked against them. Small businesses aren’t large corporations, but many banks apply the same process and requirements for small credit requests as they do for commercial loans, including collecting and reviewing sophisticated financials. This eliminates any chance of profit on small credit requests. The problem is with the bank’s process — not its borrowers.

The solution is clear cut:

  • Digitize the lending process so customers don’t have to take time out of their busy day to visit a branch or speak with a loan officer. Note that this includes more than just an online application. The ability to collect/manage documents, present loans offers, provide e-contracts and manage payments are all part of a digitally-enabled lending process.
  • Incorporate SMB-specific credit criteria that accurately assess creditworthiness more effectively, like real-time cash flow and consumer sentiment.
  • Take advantage of automation without giving up control or increasing risk. For example, client notifications, scoring and application workflow management are all easy ways to save time and cut costs.
  • Free up lending officers to spend more time with your most-profitable commercial customers.

These changes can help turn small business customers into an important, profitable part of your bank. After all, 99% of all U.S. businesses are considered “small” — so the ability to turn a profit on small business lending represents significant upside for your bank. 

With better technology and data, along with a more flexible process, community banks can sufficiently reduce the cost of extending capital to small businesses and turn a profit on every loan funded. Next, banks can market their small business loan products to existing business customers in the form of pre-approved loan offers, and even gain new business customers from competitors that push small business borrowers away. 

Think about it: small business customers already have a deposit relationship at your bank. Community banks have this advantage over the likes of Amazon, Goldman Sachs, Apple and others. But when time is limited, small businesses won’t see it that way. By rethinking your small business lending process, it’s a win for your bank’s bottom line as well as a win in customer loyalty.