Investor acquisitions of US banks outpacing de novos as challenges mount

Investor acquisitions of banks are outpacing de novos as bank hopefuls find it faster and less expensive to buy an existing bank.

In 2023, which was a quiet year for bank M&A overall, there were 12 deals involving investor or private equity group buyers compared to nine de novos. So far this year, only one de novo bank has been established, while investor or private equity groups have announced four bank buys. Given the slow pace of M&A and this rising trend, investor-bank deals are playing a larger role in overall M&A, making up 12% of all deals announced in 2023 and 8% of all transactions announced through May 28 this year.

This trend is likely to continue as hurdles, such as the price of starting a new bank and regulatory scrutiny, make the de novo route less attractive.

"One thing that might need to come back a little bit is the required capital to start a de novo bank. You're looking at $30-plus million," Matthew Veneri, head of investment banking at Janney Montgomery Scott, said at the recent Community Bankers Conference hosted by S&P Global Market Intelligence. "When you can go buy an overwhelming majority of publicly traded banks at book value or a discount to book value, from an investor standpoint, it just doesn't make sense" to start a de novo bank.

De novo hurdles

Establishing a de novo bank is an expensive and time-consuming process as the cost of technology jacks up the initial capital needed, and regulators look at these applications with a sharp eye.

As such, it is often easier and cheaper for investors to acquire an already established bank, even if it needs some cleaning up, rather than raise the funds required to start a de novo bank and wait for regulatory approval.

"It's a little easier to fix it than to do it from scratch," said R. Hill Womble, the co-founder and CEO of LifeSteps Bank & Trust, formerly Community Bank & Trust, which was acquired by LS Investor Group LLC in January. "Sometimes you do it from scratch, and it still doesn't end up right."

A bank acquisition is also a fast track to profitability, as most de novos do not turn a profit for several years.

"Having an existing bank is easier because you're able to be profitable in year one, versus if you have a de novo, it's quite possible that you're going to lose money for the first two years," said Ashley Bell, CEO of Redemption Holding Co., which plans to acquire Holladay, Utah-based Holladay Bank & Trust. "So with the same sticker price for investors, it makes a lot more sense just to invest in a bank that has a quicker pathway, a more direct pathway to showing returns and paying dividends than starting with a de novo."

Generally, investors target small community banks. Among the 20 most recent such deals, the largest target had just $642.6 million in assets.

In 2023, assets sold among the 12 banks totaled $1.98 billion and deposits sold totaled $1.65 billion. This year through May 20, there has been $234.2 million in assets and $206.1 million in deposits sold among the four announced deals.

Acquisition hurdles

Even if investors find it advantageous overall, there are still hurdles and potential downsides associated with buying instead of starting a de novo bank.

For one, most banks looking to sell in the current depressed M&A environment have at least some balance sheet issues, Bell of Redemption said.

"People completely understand how tough it is to buy a bank in this market that has a great balance sheet," Bell said. "Most of the acquisitions that you see now are banks that have some troubles."

This dynamic makes due diligence increasingly imperative, but investors can only access so much information.

"You're not able to see all of the things ... There's a lot of, for example, regulatory information that's insider-only [that] you can't access," John Johnson, president and chief credit officer of LifeSteps Bank & Trust, said in an interview. "So you need to be prepared to be nimble in those first few months after acquisition, to be able to respond to any kind of inherent or unknown challenges relative to weaknesses that you were not able to uncover through the due diligence process."

Regulatory hurdles are also common. Several of these deals were terminated in 2023 as regulators seem to look more critically at these deals. Of the four that parties called off, two attributed their choice to insufficient certainty about regulatory approval.

One reason is that regulators want these buyers to have prior bank experience and management teams that have experience running banks in the past.

As such, it can still be a long regulatory process. For example, Redemption's planned acquisition of Holladay Bank is still pending after it was announced over a year ago in February 2023.

With uncertainty about closing timing, Bell said, "I can't say what [the regulators will] do, but I will say that given where we are, I would suspect there'd be resolution to the acquisition in the fall, hopefully from our end."