While U.S. bank stock multiples have risen considerably over the last year, M&A activity has failed to reach the levels that many advisers would have expected.
The SNL Bank & Thrift Index now trades at 1.9x tangible book value, compared to 1.5x tangible book value before the U.S. presidential election in fall 2016. But a group of investment bankers and attorneys presenting Oct. 12 at the Big Decisions in Banking Conference, hosted by S&P Global Market Intelligence, noted that large bank deals have not picked up materially.
Despite an improving economy and equity market, Ken Coquillette, co-head of banks and specialty finance investment banking at Goldman Sachs, described the state of larger bank M&A as "dormant." He said the industry continues to produce roughly $25 billion in aggregate deal value every year over the last three years.
Coquillette said deal multiples have improved and the announced earnings accretion in transactions has also increased since the election. The expected earnings accretion from announced deals has risen to 10% from 7% before the election. He further noted that the expected earnback to tangible book value dilution is now just 3.5 years compared to 4.7 years before the election. The investment banker noted, however, that there is an inverse relationship in bank stock multiples between the size of the institution and where those banks trade on a price-to-earnings ratios, inhibiting the financial metrics associated with any deal.
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Mitchell Eitel, managing partner of the financial services group at Sullivan & Cromwell LLP, said he hoped the market would see an increase in larger transactions after seeing a series of sizable transactions such as First Horizon National Corp.'s purchase of Capital Bank Financial Corp., PacWest Bancorp's acquisition of CU Bancorp, Columbia Banking System Inc.'s transaction with Pacific Continental Corp. and EverBank's sale to TIAA.
Brian Sterling, co-head of investment banking at Sandler O'Neill, said some activity has failed to materialize because the industry remains locked in a regulatory vise. While that regulatory burden has prompted some banks to sell, it has also served as a governor on potential buyers, he said.
Sterling said many small banks are being asked to implement best practice operational concepts designed for larger companies. Meanwhile, he said large banks are being squeezed between safety and soundness, perfection in consumer compliance and the pressure to lend to lower-income borrowers.
Many bankers hoped that regulations would ease under the Trump administration, but changes have not come and the potential for changes could be waning. Sterling does not expect legislators to lift the $10 billion asset threshold, which brings a host of additional regulations and costs associated with stress testing, the Durbin amendment, regulation by the CFPB and higher FDIC insurance assessment fees. Crossing that threshold costs banks in the range of $5 million to $20 million, he said, prompting many institutions to grow significantly beyond the mark to offset the costs.
The desire to leapfrog over that asset threshold through a significant acquisition just might inspire banks to pursue a larger transaction. Sterling said 45 banks have crossed the $10 billion asset threshold since 2012, including 19 institutions that have grown through a major acquisition, 13 through a series of deals, six through organic growth and seven by selling.
Sterling said banks that have grown beyond $10 billion in assets through a major acquisition trade at higher multiples than those that have crossed the supervisory threshold through other methods. He said those institutions trade at 244% of tangible book value compared to 231% for banks that have grown through multiple deals and 217% for institutions that crossed through organic growth.
Changes to the stress-testing process of the largest banks – those with more than $50 billion in assets – could help spur more large bank M&A as well, according to Sullivan & Cromwell LLP Senior Chairman H. Rodgin Cohen. The veteran attorney noted that many banks participating in that process, dubbed the Comprehensive Capital Analysis and Review, or CCAR, have excess capital effectively trapped by regulatory oversight. However, he noted that some of those institutions have utilized that trapped capital through acquisitions. Cohen said the CCAR process has been a black box but there is some hope that the exercise could change and the Federal Reserve could clarify when banks can use trapped capital for acquisitions.
"Some transparency on how the Fed evaluates, and more importantly, how the Fed processes, would be very helpful," Cohen said.