Top 10 Issues for
Banking M&A in 2014
Searching for
growth and scale
Contents
Overview.............................................................................. 1
Top 10 issues for banking M&A............................................. 3
1. New regulatory paradigm ................................................. 4
2. Rising interest rate environment.......................................... 6
3. Search for capital-efficient growth..................................... 7
4. Geographic and business line rationalization...................... 9
5. Branch strategy............................................................... 10
6. Valuation........................................................................ 12
7. Technology and data for business generation................... 14
8. Tax................................................................................. 16
9. Underbanked market...................................................... 17
10. M&A readiness............................................................. 18
Moving forward ................................................................. 20
Contacts ............................................................................ 21
1
Overview
Banking analysts and executives had hoped 2013 would offer
an improved merger and acquisition (M&A) environment after
a disappointing 2011 and 2012. Although conditions improved
versus the preceding two years—more deals were transacted
at higher multiples and were well-received by investors—2013
remained difficult from a number of perspectives. Through
December, there were 242 deals, slightly lower than the 244 in
2012 (Figure 1); total deal value in 2013 was $14.4 billion, up from
$13 billion in 2012.1 Much of the year’s activity was bottom-up
consolidation driven by smaller banks. Many large financial services
institutions (FSIs) spent 2013 cleaning up balance sheets and
getting back to “core,” so divestitures, rather than acquisitions,
were the norm. Regional banks remained mostly on the sidelines,
trying to determine how to better participate in M&A.
Source: SNL Financial
1
SNL Financial. (Includes only whole deals where the target is based in the U.S. Reflects data at deal announcement event. Terminated
deals are included.)
Figure 1: Bank and thrift M&A activity
350
Number
of deals
Year
Value
of deals
($B)
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012
2013
2001
2000
2002
0
$0
$150
2
Fortunately, a number of catalysts could generate a steady pickup
in M&A deal volume during 2014:
• Earnings per share (EPS) and organic revenue growth
challenges continue to exist.
• Balance sheets have improved, with loan growth showing signs
of acceleration.
• Capital and liquidity pressures are significant due to increased
regulatory scrutiny and financial reform. Accessing additional
capital remains a hurdle for smaller banks.
• Many bank boards and management are burned out from
navigating the downturn and the heightened regulatory
environment, and some are still struggling to meet capital
hurdles and compliance costs.
• Certain buyers are looking to further diversify their business
mix, improve competitive positioning within existing markets,
and increase attractive demographics. Some are also looking to
create economies of scale to absorb the costs of a heightened
regulatory burden.
• Many banks are looking to acquire lenders to bolster the
left-hand side of the balance sheet, whether it’s credit cards,
consumer finance, or business loans.
• Transaction multiples continue to improve as sales of stronger
banks are driving more recent deal flow.
• Strategic deals are increasing as some buyers are
uncharacteristically seeing their valuations increase after
acquisition announcements.
• The market currently is rewarding buyers for recent deals with
high accretion and limited tangible book value dilution.
• Foreign firms, driven by woes at home, may consider divesting
additional U.S. assets.
• Private equity (PE) firms are looking to exit from investments
made during the financial crisis.
Considerable pent-up demand for M&A exists. Generally, larger
banks are looking to retool their product mix and geographic
footprint, regional and mid-sized banks are seeking asset
growth, small banks are looking for scale, and a rising interest
rate environment makes deals more palatable across market
segments. Also, a clearer view through the regulatory window
is allowing banks to adjust their forecasting accordingly. Yet
the deal market remains challenging, and M&A activity—while
improving—is likely to remain well below pre-crisis levels for a
number of reasons, including:
• Many buyers remain held back by both economic and
regulatory uncertainty.
• Many rules have yet to be written, and the Consumer Financial
Protection Board (CFPB) remains a wild card.
• Low Capital, Asset Quality, Management, Earnings, Liquidity,
and Sensitivity (CAMELS) ratings of buyers and pending
government investigations are precluding regulatory approval.
• Focus on EPS accretion and tangible book value dilution is limiting
the multiples that buyers are willing to pay. Conversely, seller
expectations are on the rise again, especially in the middle market
where smaller banks are no longer undervalued.
• Well-capitalized institutions remain cautious buyers. Some are
returning excess capital to shareholders through increased
dividends (to the extent permitted by the regulators) and
share repurchases.
• PE investors recently have demonstrated less interest in the
space; only a few groups have enjoyed repeated success, and
others have struggled to deploy capital. Internal return hurdles
are harder to clear in today’s market without FDIC assistance;
regulatory hurdles for PE investors remain difficult.
• Banks are not incentivized to grow past certain asset
parameters. There is concern among the top 30 banks that they
could move into a more stringent Global Systemically Important
Financial Institution (G-SIFI) bucket requiring an additional
surcharge, thus they may be limited to conducting smaller
deals or pursuing organic growth in the product, customer,
or geographic areas in which they have chosen to specialize.2
Banks that pass the $50 billion mark will be subject to more
stringent capital and liquidity requirements as well as living
wills; banks that pass the $10 billion mark will be subject to
formalized stress tests and increased regulatory requirements.
Facing both catalysts and obstacles for renewed M&A
activity in the coming year, banks should be mindful of
the issues on the pages that follow.
2
Jane Searle, “Too Big to Merge?”
The Deal Pipeline, September 17, 2013, as cited in
2014 Banking Industry Outlook.
Repositioning
for growth: Agility in a re-regulated world, Deloitte.
3
Top 10 issues
for banking M&A
in 2014
4
The Volcker Rule, Basel III capital requirements, global liquidity rules, stress
testing, Bank Secrecy Act compliance: banks should watch for regulatory issues
that could delay or scuttle a deal.
Size matters when it comes to regulatory constraints on the
banking sector: The bigger the players, the more restrictions
on banking activities, including M&A. Banks with less than
$10 billion in total assets face the least restriction, while the
very largest Systemically Important Financial Institutions (SIFIs)
experience the highest level of constraints. Among the major
regulatory actions that are expected to hold considerable sway
over bank M&A in 2014 are the Volcker Rule, Basel III capital
requirements, global liquidity rules, stress testing, and anti-money
laundering (AML) and Bank Secrecy Act (BSA) compliance laws.
After banks waited two years for the shoe to drop, the Volcker
Rule was finalized December 10, 2013, although banks won’t have
to comply with the Rule until 2015.3 Essentially, this legislation
places restrictions on trades conducted as hedges against other
risks. Officials say the final Volcker Rule “attempts to straddle
the line” between banning proprietary trading and permitting
market-making. It calls for “unprecedented surveillance” of big
banks’ trading operations, primarily through documentation that
requires banks to justify trades and keep running tallies of their
activities. However, the banks themselves will be mainly responsible
for establishing parameters that determine whether they are
in compliance with the Rule.4 Volcker Rule compliance has the
potential to drive larger banks’ divestitures of potentially risky
assets and non-core businesses. In addition, it may prompt niche
fill-in opportunities for private equity investors (PEIs), opportunities
for management buyouts, and opportunities for PEI roles within
the fund or corporate level.
Basel III will require graduated levels of additional capital
investment as banks increase in size, although some of the more
burdensome requirements have been eased in the final rules,
particularly for small- and mid-sized entities. Among the potential
implications of Basel III’s graduated capital requirements: a bank’s
capital structure to have a greater emphasis on equity capital;
stress test requirements to result in higher risk structures that
need higher capital levels; and concentrations to impact capital
levels. While many U.S. institutions are fine-tuning their capital
strategies, in general the top end of the sector appears to be
adequately prepared for higher capital requirements. However,
there appear to be numerous institutions, primarily in the small-
to mid-size range, with near-inadequate capital levels.
A rising capital bar could be an impetus for deal activity
(Figure 2, next page). Globally, Basel III may prompt geographic
retrenching for capital preservation as institutions rethink which
assets truly are core. In the U.S., it could spur community bank
consolidation. Also, given the incremental regulatory expense
and efforts associated with exceeding defined thresholds,
acquirers may desire to offset such additional costs and scrutiny
with economies of scale.
Liquidity requirements also increase with size, and a legal
entity’s business model can impact liquidity levels. A core
deposit structure offers stability and lower liquidity requirements
than wholesale funding, while a holding company structure
with large affiliates outside an insured institution results in
elevated liquidity requirements.
3
“Volcker Rule Finalized With Wall Street Responsible For Judging Compliance,”
The Third Metric, December 10, 2013.
http://www.huffingtonpost.com/2013/21/10/volcker-rule-finalized_n_4422292.html?view.
4
Ibid.
1. New regulatory
paradigm
5
Increasingly, multinationals and other large banks operating
in this heightened regulatory environment are evaluating their
products, geographies, and businesses and exiting areas that
could cause them problems. To that end, divestitures of operating
units and asset portfolios have accounted for about 45 percent of
M&A activity for the past two years, almost double the 2000-
2010 average of 26 percent.5
More stringent regulations may both drive and impede M&A in
the middle market. Anticipated infrastructure and operational
costs to comply with assessment and reporting requirements
may be so onerous that they prompt certain institutions to
merge or be acquired so they can spread those costs across a
larger base. On the other hand, mid-tier M&A could be slowed
by AML/BSA compliance laws, as regulators strive to prevent
big-bank problems of the past from percolating at the
mid-bank level.
The due diligence process likely will assume even greater
importance in 2014 under the new regulatory paradigm, because
buyers need to make sure that potential acquisitions don’t
have issues that may delay or scuttle a deal. In addition, banks
contemplating M&A need to work proactively with regulators
and add increased focus to regulatory (and potentially related
information management infrastructure) issues as part of the due
diligence process if they hope to secure timely deal approval.
Finally, banks should be realistic in their M&A timetables, as
regulators are taking longer to approve deals. Three to six months
used to be the norm; now a year is more typical.
0
400
0%
14%
Basel III CET1 Requirement (4.5%)
Average
CET1 Ratio
(%)
Year
2005
2006
2007
2008
2009
2010
2011
2012
2013
Basel III + 2.5% Capital Conservation Buffer (7%)
Number of banks
with less than
8% CET1
Source: SNL Financial
Figure 2: Tier 1 common risk-based ratio (CET1) for the U.S. commercial banking industry
5
Thomson Financial. (Data reflect proportion of total deal value in each period by ranked deal value. Includes all U.S. deal targets.
As of October 2013.)
Bottom line
For banks looking to grow through M&A, regulatory restrictions continue as a major hurdle, although increased clarity may also bring
increased confidence. New and yet-to-be issued rules present potential challenges based on institution size and structure as well as
capital and liquidity requirements. Such rules are likely to prompt large banks, in particular, to shed assets and continue to return to core
banking business lines. Also, there is a bifurcation in (1)
dealing with regulations, like Dodd Frank, which permeate the M&A process, and
(2) engaging in ongoing
planning for the new regulatory paradigm in doing deals. Essentially, banks need to “get to strong” by better
integrating risk into the agendas of their boards of directors, by improving current stress testing inadequacies, and by building platforms
that deliver consolidated audit trails and effective data transparency as mandated by new regulations.
6
2. Rising interest
rate environment
Rising interest rates could produce higher yield curves, making deposit liabilities
more valuable. Banks flush with deposits and not enough loan demand may be
especially attractive.
The Federal Reserve’s guidance of monetary policy could
influence bank M&A activity in 2014. The Fed previously stated
that it will keep interest rates low through 2015; in her first
public remarks as Federal Reserve Chair, Janet Yellen said on
February 11, 2014, that she strongly supports current monetary
policy.6 In addition, she stated that the Fed plans to gradually
scale back its bond-buying program because economic growth
has strengthened and there is “broad improvement” in the labor
market.7 Yellen also said she sees economic fundamentals calling
for low interest rates to bring unemployment down and boost
inflation to target.8
If interest rates rise, banks should generally benefit in 2014. Higher
interest rates reduce excess liquidity; provide the ability to extend
into longer-duration assets; generate higher reinvestment rates;
and offer more attractive loan yields and wider spreads, especially
for loans priced off the long end of the curve—which improves
net interest income and margin. In addition, mortgage servicing
rights (MSR) value, which helps fee income, is generally positively
affected through lower prepayments.
At the same time, these gains may be tempered by some short-
term offsets: Higher interest rates reduce available-for-sale (AFS)
securities value, which generates lower unrealized gains and
tangible common equity; an increase in long-term rates does
not necessarily imply a rise in the short end of the curve; and the
benefits of rising rates may be offset somewhat by lower loan
volume, lower mortgage banking origination income, and lower
gains on sale margins.
From an M&A perspective, higher rates could make deposit
liabilities more valuable and increase the attractiveness of banks
flush with deposits but lacking an ability to lend. 2014 may
see some deposit-based acquisitions of community banks by
small regionals in efforts to expand their footprints and bolster
liquidity. Also, given the historic low interest rate environment,
many companies have fortified their balance sheets with fairly
low-cost funding and are flush with cash, which may limit loan
demand over the next few years (depending upon economic
growth). This may be a catalyst for M&A as banks look for
alternative growth avenues.
6
“Federal Reserve Chair Janet Yellen first semi-annual monetary policy testimony before House Financial Services Committee in
Washington,”
Econoday, February 11, 2014. http://bloomberg.econoday.com/byshoweventfull.asp?fid=463587&cust=bloomberg-
us&prev=/bymonth.asp.
7
“U.S. Stocks Rally as Yellen Speech Fuels Bet on Economy,”
Bloomberg News, February 11, 2014. http://www.bloomberg.com/
news/2014-02-11/u-s-stock-index-futures-rise-before-yellen-testimony.html.
8
“Federal Reserve Chair Janet Yellen first semi-annual monetary policy testimony before House Financial Services Committee in
Washington,”
Econoday, February 11, 2014. http://bloomberg.econoday.com/byshoweventfull.asp?fid=463587&cust=bloomberg-
us&prev=/bymonth.asp.
Bottom line
The Fed’s monetary policy drives interest rates and their subsequent impact on banks, including M&A activity. Rising rates,
especially with a steepened yield curve, could be positive for banks overall because they may lead to greater margins and profits.
However, rising rates for banks, in our view, are a bit of a mixed blessing. Some banks may have been overreaching asset duration
in trying to maximize short-term earnings in the recent low interest rate environment. This could be problematic as liability rates
rise faster than asset yields.
7
3. Search for capital-
efficient growth
In addition to acquisitions that expand a bank’s loan origination platforms
(e.g., auto financing and asset leasing companies), banks are searching for
assets that can help widen margins.
Striving for capital-efficient growth is a hot-button issue for
bank executives, particularly since traditional lending segments
are not producing yield, many institutions have cut expenses as
much as possible, and regulatory compliance costs remain steep.
While banks have undergone significant efforts to improve
returns since 2008, they are now operating in a “new normal”
with higher capital requirements, which makes it unlikely that
ROE could return to pre-2008 levels. On the positive side, banks
have raised more than $300 billion in Tier 1 capital since 2007,
a 31 percent increase, which pushed risk-based capital ratios
above 12 percent. This is a historic level for banks with more
than $10 billion in assets.9
As substantive organic growth becomes more and more
challenging to achieve, banks are examining alternatives,
including M&A to unlock capital-efficient investment
opportunities. In addition to considering acquisitions that
expand a bank’s origination platforms (e.g., auto financing and
asset leasing companies), banks are searching for assets that
can help widen margins. Fee-based businesses (e.g., trusts,
wealth management, processing) are often an attractive option
because they are capital-efficient and may offset credit-sensitive
business lines. In addition, the shadow banking sector has seen
a noticeable uptick in M&A as the securities and investments and
specialty finance subsectors provide opportunities (Figure 3).
9
FDIC. Data for banks with assets >S10 billion.
Past 12 months (as of 9/23/13)
Previous trailing 12 months
Sub-industry type
Agg.
deal value
($M)
% of total # of deals % of total
Agg.
deal value
($M)
% of total # of deals % of total
Bank and thrift
13,526
15
90
32
15,335
20
97
31
Financial technology
12,388
13
52
19
11,708
16
63
20
Insurance broker
5,062
5
25
9
1,965
3
32
10
Insurance underwriter
18,172
20
37
13
27,831
37
51
17
Securities and investments
18,785
20
31
11
10,630
14
35
11
Specialty finance
24,248
26
45
16
7,727
10
30
10
Grand total
92,181
280
75,196
308
Source: SNL Financial
Figure 3: Recent shadow banking sector M&A
8
Bottom line
Banks increasingly are looking to acquire fee-based businesses that are not capital-intensive. Many have moved or are moving
into wealth management. However, increasing M&A activity is driving up prices. Also, wealth management tends to require scale
(high levels of assets under management) to be successful. This could limit the number of banks that consider entering the wealth
management business because they have to use capital to acquire assets under management.
The process of attaining capital-efficient growth is as much about being smart about what you buy and how you run it as it is about looking
for fee-based growth. While improving capital deployment and efficiency may unlock potential M&A and investment opportunities, a bank
has to understand the field and execute transactions with rigor.
The challenge banks face is that increasing M&A activity in
securities and investments and specialty finance has made these
subsectors competitive and fairly expensive. Also, while fee-based
business is attractive, scale and specialized service may separate
the long-run winners from other competitors.
9
4. Geographic and
business line
rationalization
Using M&A to fill strategic gaps in customer, product, and geographic portfolios
is one way banks are repositioning for growth. Divestitures may be likely as
multinationals and super-regional banks rebalance, prune branches, jettison
higher-risk offerings, and right-size their workforces.
M&A that supports specialization and rationalization along the
vectors of customers, products, and geographies may likely
continue in 2014, as strategic decisions play out and banks
reposition for targeted growth amid economic, regulatory, and
market constraints. Geographic and business line rationalization
is a strategic response to sub-par topline growth, especially
when cost-cutting alone has failed to generate sufficient return
for shareholders. Divestitures often play a specific role in the
process (Figure 4), as large multinational and super-regional banks
rebalance markets, prune branches, jettison risk-prone products
and services, and right-size their employee bases.
Following a period of global expansion, many large U.S. banks are
retreating to domestic footprints and re-examining geographic
expansion in the context of customer attractiveness, capital use,
and regulatory restrictions. Therefore, when a bank lacks sufficient
scale or share to be relevant in a particular market, and a merger
or acquisition does not make economic sense, divestitures have
become more common as a way to free up capital and focus more
attention on core businesses and markets.
Increasingly stringent regulatory and capital requirements also may
prompt larger institutions to shed assets and locations. Given new
capital requirements, many U.S. banks have less flexibility to allocate
capital globally and, as a result, are retrenching internationally.
However, the opposite is also true: As domestic regulations
increase, some larger U.S. banks are evaluating acquisitions in less
capital-restrictive regions, especially if they offer broad growth and
client service opportunities.
Large banks from other nations are also engaging in cross-border
M&A, viewing the current environment as an opportunity to
bolster selected business lines or to re-enter or strengthen their
presence in the U.S. and other locales. Among active acquirers in
the U.S. and elsewhere are banks from Mexico, Brazil, Colombia,
Chile, Canada, and Japan.
Finally, PE investors are both divesting and acquiring: Some are
adopting exit strategies to monetize their minority stakes in banks
they’ve held since the financial crisis. Others are considering
acquisition opportunities outside the regulated banking space as
platforms for growth.
Figure 4: Specialization and rationalization
Heading into 2014:
• Specialization will continue
to spur divestitures
• Increased competition may
also drive M&A activity
• Many focusing on asset
generators and niche markets
to gain scale
• Common focus areas:
– Business lending
– Wealth management
– Credit cards
Divestitures as
a percentage
of M&A value
26%
48%
2000–2010
2011–Present
Bottom line
The trend of returning to core and capital efficiency continues, driven by ongoing performance issues and changing market conditions,
among other factors. Also, after a period of global expansion, some banks are refocusing on strengthening their domestic footprints,
prompted by increased regulatory scrutiny and Basel III capital needs. M&A that supports specialization—customers, products, and
geographies—may continue in 2014.
10
5. Branch strategy
The pendulum swings. Large banks may be selling branches as a way out
of non-core markets. Smaller banks may buy them to gain local deposits.
While analysts’ predictions about their demise may have been
overstated, there is general consensus that the United States
has an overabundance of bank branches. In today’s cost-
conscious environment, banks are weighing the value of the
branch, how to leverage their existing physical locations, and
whether to expand or contract their footprints. As evidence,
some large banks are selling branches to exit non-core markets,
while smaller banks are buying them to increase their deposit
market share in markets they serve.
A bank typically wants to be in the leading markets and—in any
selected market—to be among the top two or three in market
share. Some institutions made numerous post-crisis, distressed-deal
acquisitions to gain customers and deposits because the pricing
was right; however, they ended up with larger footprints than they
wanted or needed in terms of branch numbers and/or locations.
Today, these banks are starting to rationalize their footprints,
closing branches or doing one-off sales to other banks that are
eager to enter new markets or grow share by acquiring branch
networks (e.g., a large national bank sells a number of branches to
a smaller community bank). In fact, branch M&A activity in 2012
was the highest since before the crisis, although 2013 activity failed
to keep pace (Figure 5).
$0
$18
0
250
Number of
transactions
Year
2009
2010
2011
2012
2013
Annualized
Value
of deals
($B)
Source: SNL Financial; Deloitte analysis
*Information relates to announced or completed transactions with disclosed purchase price information as of 11/14/2013. Data includes only whole bank
deals for U.S. bank or thrift targets and excludes branch sales, asset purchases, minority investments, government-assisted transactions, and mutual conversions.
Terminated deals are excluded.
Figure 5: Historical branch M&A activity (2009–2013 YTD annualized)
U.S. bank and thrift M&A transactions: Previous four years and YTD*
11
Nationally, the number of brick-and-mortar (BAM) bank branches
in the United States declined in 2011 for the second straight year,
from 98,853 to 98,202. Factors cited range from a still-elevated
number of bank failures to a lack of foot traffic resulting from
greater use of online banking.10 In fact, it is becoming increasingly
apparent that technology is disrupting traditional consumer-bank
relationships and taking a toll on branch activity. Transactions
such as transferring funds, checking account balances, making
deposits, and paying bills increasingly are conducted using online
and mobile technologies rather than branch tellers. This trend,
along with branches’ traditional high cost structure, is prompting
many banks to question the future role and value of physical
locations: How much of a BAM presence do we need in a market
to get our share of new customers? How can we use branches
to engage with digital customers? The answers likely will differ
by institution. Depending on an organization’s brand strategy,
branches may evolve to become servicing facilities for small
businesses, sales offices, or community gathering places.
Many banks have unprofitable branches, so optimizing existing
locations and lowering their cost structure is important. Some
may choose to engage in M&A, closing and selling outdated
facilities and building or buying in better locations. Another
option that banks might consider is doing sales-leasebacks,
which frees up capital and allows banks to use it to pay down
higher-cost funding. They could also continue to own specific
properties but hire someone else—e.g., a hotel management
company—to operate them. A fourth way to cut down on real
estate costs—especially given lower transaction volumes—is
to shrink the size of branches and reposition them as places
for consumers to engage in more complex interactions and
purchase specialized offerings (e.g., mortgages and wealth
management services). Note that this changing focus is likely
to lead to a changing employee profile—a shift to more
knowledgeable, specialized talent such as loan officers and
wealth managers who have a network of relationships to grow
the bank from an origination perspective.
10 “Number of U.S. bank branches drops for 2nd year,”
Chicago Tribune, citing figures released by SNL Financial, October 14, 2011.
http://articles.chicagotribune.com/2011-10-14/business/chi-number-of-us-bank-branches-drops-for-2nd-year-20111014_1_bank-
branches-firstmerit-deposit-growth.
Bottom line
Banks should consider having a long-term, sustainable branch strategy. A branch’s physical infrastructure, direct and allocated costs,
associated regulatory costs, narrowed margins, and reduced fee upside make “getting this right” a necessity for all major players.
Banks’ efforts to reduce their footprints, optimize branch networks, and adopt omnichannel approaches to differentiate the customer
experience may drive new M&A. The result may be fewer branches but more creativity in sustainable solutions.
12
0
3.34
P/TBV
multiples
Bank, Small Cap
Index: SNL U.S.
Bank, Mid Cap
Bank, Large Cap
Thrift
Year
2007
2008
2010
2009
2011
2012
Median
2014
6. Valuation
Valuations during the financial crisis were so low that institutions could be purchased
for their replacement cost value. Prices are rising, especially in the mid-market.
A favorable trend in valuation is reflected in improving price-to-
tangible book value (P/TBV) multiples, but they remain below
historic levels. As of early February 2014, small cap banks were
trading at 1.64x, mid cap banks at 2.01x, large cap banks at
1.61x, and thrifts at 1.63x—a considerable drop from 2007
levels (Figure 6).
However, as earnings stabilize and capital is replenished,
increased focus is being placed on forward price-to-earnings
(FWD P/E) multiples for valuation purposes (Figure 7, next page).
With a rising equity market, many sellers are looking for stock
deals to generate longer-term benefits on the upside.
Sources:
• SNL Financial, data as of February 5, 2014
• SNL Small Cap U.S. Bank Index includes all publicly traded banks in SNL’s coverage universe with $250MM to $1B total market capitalization
• SNL Mid Cap U.S. Bank Index includes all publicly traded banks in SNL’s coverage universe with $1B to $5B total market capitalization
• SNL Large Cap U.S. Bank Index includes all publicly traded banks in SNL’s coverage universe with greater than $5B total market capitalization
• SNL U.S. Thrift Index includes all major exchange thrifts in SNL’s coverage universe
Figure 6: Improving P/TBV multiples
13
0
17
FWD P/E
multiples
Bank, Small Cap
Index: SNL U.S.
Bank, Mid Cap
Bank, Large Cap
Thrift
Quarter
1
2
4
3
1
2
4
3
1
2
4
3
2011
2012
2013
Sources:
• FactSet, data as of February 5, 2014
• SNL Small Cap U.S. Bank Index includes all publicly traded banks in SNL’s coverage universe with $250MM to $1B total market capitalization
• SNL Mid Cap U.S. Bank Index includes all publicly traded banks in SNL’s coverage universe with $1B to $5B total market capitalization
• SNL Large Cap U.S. Bank Index includes all publicly traded banks in SNL’s coverage universe with greater than $5B total market capitalization
• SNL U.S. Thrift Index includes all major exchange thrifts in SNL’s coverage universe, except for those with limited or irregular coverage
• Forward P/E calculations aggregates the daily price divided by the estimated earnings from consensus
Figure 7: Focus on FWD P/E multiples for valuation purposes
Bottom line
With the recent uptick in valuations driven by a rising stock market and improving economic fundamentals, additional multiple
expansion may be limited in the short term, given continued headwinds in driving organic EPS growth. M&A anticipation, along
with solid earnings performance, high capital levels, and strong risk management are the likely catalysts for multidimensional
expansion going forward.
14
7. Technology and data
for business generation
Companies needing technology and data upgrades may turn to M&A as an
alternative to in-house development. Through M&A, they can acquire the
capabilities to bolster data management and deliver more accurate, consistent,
timely, and secure information.
Financial services is quickly becoming a technology-driven
industry. High-tech applications and data management are
rapidly moving from back-office support to customer-attraction
and business-generation roles, and they are increasingly
serving as specific enablers of revenue growth, improved risk
and compliance management, and enhanced operational
effectiveness. Cloud computing is becoming a standard platform
for delivery of services, and mobile deposit capture and bill
payment are rapidly gaining acceptance. Additionally, banks’
ability to cost-effectively and creatively use big data and advanced
(i.e., predictive, prescriptive, etc.) analytics to transform large
volumes and varieties of information across the enterprise into
useful insights could become a characteristic of future industry
winners and losers.
Historically, technology has been important to bank operations;
now it is becoming increasingly important to bank M&A as
institutions seek hardware, software, and data solutions to help
them differentiate the customer experience (Figure 8), ramp up
the sophistication of data analytics and usage, protect sensitive
customer and organizational information from cyber theft,
comply with more stringent regulatory requirements, and gain
an overall competitive market edge. Because of technology’s
rapid rate of change, many banks are choosing to acquire
niche solution providers—rather than develop applications in-
house—to optimize their branch networks, integrate alternative
channels, and improve cross-selling of products and services.
Concurrently, technology companies that service the banking
industry are looking to acquire their peers so they can be better
vendors to the banks.
Technology considerations are adding a layer of complexity
to the M&A due diligence process: To avoid bringing bad
or incomplete information into a “clean” system, potential
buyers should conduct a full inventory of a target’s systems
and databases, understand how they are supported internally
or externally, and determine the quality, completeness, and
trustworthiness of information being presented as part of the
transaction. With risk-based capital acquisitions, in particular,
a buyer needs to determine its potential exposure at a very
granular level, which may call for a detailed analysis of data
maturity and integrity for each line of business.
Technology issues also may present post-deal integration
challenges. When one bank acquires another, it has to roll up
its technology and information assets into the global enterprise,
which can result in system redundancy and information silos.
If merged entities are allowed to continue using siloed systems
and databases, it tends to become extremely risky and costly to
manage information outside the enterprise construct.
To comply with post-crisis regulatory reporting requirements—
including demands for full data transparency—banks need to
bring together risk management, financial management, and
customer data management across multiple businesses and
locations to produce integrated, global-level views of each
organization’s data. Banks also have to work to assure the
data’s quality, specifically its trustworthiness and completeness.
Figure 8: Differentiating customer experience
Banks’ efforts to optimize branch networks and integrate
alternative channels may drive new M&A.
• Improve data infrastructure and analytics
• Enhance segmentation
• Bolster cross-selling
• Optimize branch structure
• Unify mobile and branch channels
•
Imp
and
•
Enh
• B
ol
•
Optimi
• Unify m
15
Beyond the mandates, banks also are being challenged to
manage information as a strategic corporate asset—which can
be difficult when merged entities may not know exactly what
information they have and where it resides. This need shines
a light on the importance of analytics to help banks compete
more effectively.
Banks are taking a variety of actions to address this new
paradigm for institutional data management. Some larger
institutions are creating the position of chief data officer (CDO),
the individual responsible for delivering a sustainable enterprise
data management infrastructure and support. Under the auspices
of an enterprise-wide data management office (DMO), the CDO
brings together disparate departments, systems, applications,
and tools while establishing ownership roles and responsibilities
among various data users for critical elements of their business.
Under the direction of the CDO, many banks are establishing
global data management programs to support regulatory
compliance and business-building. In addition, banks of all sizes
are increasing their use of analytics to enhance customer and
market knowledge, defensively protect existing deposits, and
offensively attract new ones. Finally, some banks are realizing
post-transaction that they may have to revamp their merged
systems, or build new ones from the ground up, to provide
more value to the institution and extract more revenue from the
acquired customer base.
Bottom line
M&A can be a more efficient way to attain technology improvements than developing them in-house. In addition, M&A can help
organizations acquire the necessary capabilities to bolster data management functions and deliver more accurate, consistent, timely,
and secure information. However, when considering a transaction, it is important that the buyers understand the technology issues and
opportunities they may be inheriting and that they have an effective post-transaction integration strategy in place to capitalize on market
and revenue synergies. It is likely that banks may need to allot more capital for technology infrastructure investments.
16
8. Tax
Buyers and sellers should pay close attention to two major tax issues in the coming
year: deferred tax assets and Foreign Account Tax Compliance Act implications.
Deferred tax assets and the Foreign Account Tax Compliance
Act (FATCA) were two focus areas for M&A transactions in 2013
that may continue in 2014. Deferred tax assets attributable to
net operating loss carry-forwards (NOLs) and built-in losses (BILs)
in a bank’s portfolio of assets continue to be a key focus of
M&A transactions, as they are a significant component of many
organizations’ balance sheets.
U.S. tax law imposes a limitation on the use of NOLs and, in
certain cases, recognized BILs following an ownership change.
A key question for acquirers and targets is whether, following
the transaction, the combined bank will need to write down
its deferred tax assets attributable to NOLs and BILs because of
the limitation on the post-transaction use of such tax attributes
imposed by the tax law. To answer that question, a bank should
consider the following: Are there any existing limitations on the tax
attributes? Will the transaction result in an ownership change, and,
if so, what will be the amount of the limitation? If the transaction
results in an ownership change, which tax attributes will be subject
to a limitation (e.g., recognized BILs being subject to a limitation)?
If the acquiring bank uses its stock as currency in the transaction,
the considerations noted above are applicable to the acquiring
bank and its tax attributes.
Another key aspect of deferred tax assets is the impact on a
bank’s regulatory capital. In 2014, banks start the five-year phase-
in of the Basel III rules. Generally, the treatment of deferred tax
assets under Basel III is less favorable than under the prior rules
applied to banks. Accordingly, banks considering a transaction
should model the impact of deferred tax assets on the post-
transaction regulatory capital.
Banks are encouraged to get tax professionals involved early
in the transaction because the technical analyses required
to perform the work on the deferred tax assets can be time-
consuming and have a meaningful impact on the value of the
combined bank.
FATCA is expected to have a significant impact on the operations
of U.S. banks and non-U.S. banks that have U.S. customers
or non-U.S. customers with U.S. assets. The legislative intent
of FATCA is to ensure there is no gap in the ability of the U.S.
government to determine the ownership of U.S. assets in non-
U.S. bank accounts. Under FATCA, foreign financial institutions
(FFIs), including non-U.S. banks, generally will be required to
enter into disclosure compliance agreements with the U.S.
Treasury unless an exemption or FATCA Intergovernmental
Agreement applies. Payments made by U.S. payors to non-
compliant FFIs are generally subject to a 30 percent withholding
tax. This new reporting and withholding regime will ultimately
impact current account opening processes, transaction processing
systems and “know your customer” procedures used by non-
U.S. banks. FATCA will be phased in and be effective for some
payments made after June 30, 2014. In the context of an M&A
transaction, due diligence should be performed to assess FATCA
readiness and, ultimately, compliance.
Bottom line
When a bank is contemplating an M&A transaction, management should consider the potential impact of a proposed transaction on
the value of the deferred tax assets and the potential impact of the deferred tax assets (including any decrease in value of such assets
because of the transaction) on the combined bank’s regulatory capital. In addition, the parties should assess the FATCA readiness of the
combined bank and, if necessary, adopt a plan to address any gaps in the bank’s compliance function.
17
9. Underbanked market
Some organizations are eyeing technology as a means to cost-efficiently serve
the underbanked market. Private equity investors see this as a way to participate
in lending and banking sectors without actually owning banks.
The number of U.S. families without bank accounts grew
by 821,000 from 2009 to 2011, increasing the “unbanked”
population—those without checking or savings accounts at
insured institutions—to 8.2 percent of the nation’s households.11
One in five households (20.1 percent) was “underbanked” in
2011, relying on non-bank services such as payday lenders and
check-cashing firms.12
Serving the underbanked profitably has long been a challenge,
but some organizations are eyeing technology as a means to cost-
efficiently serve this market. Private equity investors, in particular,
have focused on the area as a means to participate in the lending
and banking sectors without actually owning banks. Specifically,
PE firms have been focused on potential investments in cutting-
edge technology providers that offer a cost-efficient option to the
underbanked. By comparison, traditional banking institutions may
have an opportunity to expand their customer bases by offering
products and services for the unbanked and underbanked.13
They have been trying to find cost-efficient ways to increase
their service suites to include check cashing, money transmitting,
prepaid cards, and the like; however, it has been difficult to
bring the unbanked and underbanked into the fold. A number of
hurdles exist, not the least of which is intense regulatory scrutiny
of the way non-banks are serving the segment. The Justice
Department’s probe of payday lenders has shined a light on the
practice of predatory pricing for consumers outside the banking
system. In addition, the Consumer Financial Protection Bureau
(CFPB) seeks to safeguard under- and unbanked consumers
against abusive and deceptive practices.
11 “U.S. Unbanked Households Rising as FDIC Pushes for Alternatives,” results from FDIC National Survey of Unbanked and Underbanked
Households, Bloomberg.com, September 12, 2012.
http://www.bloomberg.com/news/2012-09-12/u-s-unbanked-households-rising-as-fdic-pushes-for-alternatives.html.
12 Ibid.
13 Ibid.
Bottom line
It is difficult to determine what role the unbanked and underbanked market may play in near-term M&A. While banks may focus
on creative solutions and alliances, it likely will be private capital players outside the banking system doing deals.
18
10. M&A readiness
Interest rates are rising, valuations have improved, capital reserves are robust, and
the stock market is strong. M&A is heating up. Acquiring banks may need to be
more flexible, nimble, and attentive to details, especially with transactions crossing
multiple businesses, functions, and geographies.
For the first time in years, many banks are starting to put M&A
back into their strategic plans, thanks to improving market
conditions: Interest rates are rising, valuations have improved,
capital reserves are robust, and the stock market is strong.
However, the M&A process has changed from pre-crisis days due,
in part, to increased regulatory scrutiny and its impact on due
diligence and transaction length.
As the M&A market heats up, acquiring banks may need to be more
flexible, nimble, and attentive to details, especially since transactions
may cross multiple businesses, functions, and geographies. Timing
and speed to close are critical: Lacking executive sponsorship,
an M&A playbook, established decision-making and approval
processes, and a dedicated business development team (composed
of internal and external resources) to facilitate transactions, even
the most promising deal may be scuttled if execution spools out too
long. In fact, getting deals done efficiently remains an elusive goal
at many companies: Three-quarters of the respondents to Deloitte’s
2013 Corporate Development (CD) Survey, Pushing Boundaries in
M&A, reported having “well-defined M&A approval processes,” but
only 19 percent characterized the efficiency of these processes as
“excellent.” Close to one-third rated the efficiency as “fair to poor.”14
Almost three-quarters of the Deloitte survey respondents cited
strategic clarity, executive access, and a business development
team’s deal-making credibility as the top elements of an efficient
M&A process.15 Factoring in the changing business and regulatory
landscape is also important to banks seeking to engage in
M&A—particularly if they have been inactive for a year or more—
as the margin for error on a deal has diminished. Preparations
should begin with an assessment of the bank’s M&A readiness;
a detailed diagnosis of its strengths and weaknesses in key areas
such as risks and regulations, finance, technology, human capital,
operations, customers, brand, and culture. Vetting these issues
before engaging in M&A may help an acquirer better understand
how to meld post-acquisition cultures, attract and retain good
employees, and generate synergies and sustainable cost savings.
It is also important to involve regulators early in the process.
14 “Improving M&A Decision-making: Leading Practices,”
CFO Journal, December 16, 2013.
http://deloitte.wsj.com/cfo/2013/12/16/improving-ma-decision-making-leading-practices/.
15 Ibid.
19
Other practices that may improve M&A decision-making and
speed the deal approval process include:
• Having a playbook with a set of criteria for evaluating deals that
the CEO, CFO, and board can work with consistently, whether
the objective is growth, profitability, or another goal.
• Establishing strong relationships, both internally and
externally, before getting into a deal to quickly bring in the
necessary resources.
• Quickly articulating the inherent value of the transaction. Focus
on the main value drivers and challenges, strategic merits, the
way the deal could be presented to Wall Street, and the way it
aligns with specific financial criteria.
• For each deal, assembling a team of specialists from key
functional and business areas to gather and analyze data, and
identify risks and opportunities in their areas of expertise.
• Actively engaging regulators at the onset of M&A plans to help
smooth the approval process.
• Establishing clear roles for each decision-maker—who gets
what information when, and when each person should be
brought into the decision-making process.16
Bottom line
Banks need to be well-prepared buyers and/or sellers so they are able to move quickly on potential M&A deals as well-oiled machines.
Readiness activities should include gap assessments; detailed due diligence to identify financial, regulatory, operational, cultural, and
brand risks; and upfront vetting of potential deal synergies and integration costs. Proactive planning to address the full range of M&A
lifecycle challenges—including post-integration issues—is essential to improve transaction efficiency and construct deals that enrich
shareholders and customers.
16 Ibid.
20
Moving forward
$0
$70
0
80
Number
of deals
Year
2007
2008
2010
2009
2011
2012
2013
Volume
of deals
($B)
Bank
Thrift
Source: SNL Financial
Transactions are whole deals as of December 31, 2013
Excludes: Terminated deals, deals less than $50MM, government-assisted deals, and branch and asset deals
Figure 9: U.S. depository M&A announced deals
The M&A market is likely to gather steam in 2014, as evidenced
by recent trends in transaction volume (Figure 9). While large
banks and super-regionals are not anticipated to engage in major,
transformational deals, many are likely to continue divesting
assets to avoid regulatory issues. Many bigger community
banks, frustrated with sluggish organic growth prospects, are
intensifying their searches for appealing targets that could provide
asset generators and earnings expansion. Small lenders, in turn,
appear to be evaluating the advantages of joining forces with
larger players because consolidation may rationalize the playing
field and drive increased investor demand (Figure 10). European
banks are expected to continue deleveraging and reducing their
U.S. presence due, in part, to changing capitalization rules, while
some players from other countries still seek opportunities to enter
or expand in the U.S. market. Finally, non-banks and PE firms
may take advantage of limited regulatory oversight and leverage
disruptive innovation and M&A to grow.
In general, banks appear to be moving from a defensive to an
offensive position regarding M&A as they seek growth and scale.
However, a lack of substantive targets and a longer regulatory
approval process could slow M&A’s momentum, especially for
large banks. Actively engaging regulators at the onset of M&A
plans may help banks move past regulatory issues more easily
and shift M&A in the coming year from a reactive mode to more
of a strategic one.
The following impacts of consolidation increase investor demand:
» Strong management team
» Compelling stories
» Strong franchises (attractive customer base, strong core deposit
base, meaningful competitive advantage)
» Prospect for top-line revenue and strong core earnings growth
» Manageable credit issues
» Solid capital levels with opportunity for dividend payments and
share buybacks
» Acquisition upside
» Transactions/use of proceeds resulting in early EPS accretion,
limited TBV dilution, and attractive returns
Figure 10: Impacts of consolidation
Banks also should view M&A through a risk lens that reassesses
their current business lines, geographic footprints, and potential
returns on capital deployment. Analytics can help acquirers gather
and process data from a wealth of external sources and validate
assumptions about particular acquisition targets, as well as the
information provided by the targets. Further, banks should take
steps to ensure M&A plans are rich with efficiencies, especially in
today’s cost-conscious environment.
21
Max Bercum
Principal
Deloitte Consulting LLP
+1 404 631 2489
mbercum@deloitte.com
Fred Carchman
Director, M&A Transaction Services
Deloitte Tax LLP
+1 212 436 2096
fcarchman@deloitte.com
Thomas Kaylor
Principal
Deloitte Financial Advisory Services LLP
+1 212 436 2409
tkaylor@deloitte.com
Jason Langan
Partner, M&A Transaction Services
Deloitte & Touche LLP
+1 212 436 2646
jalangan@deloitte.com
Paul Legere
Principal, M&A Consultative Services
Deloitte Consulting LLP
+1 312 486 2289
plegere@deloitte.com
Jojy Mathew
Principal and Co-Leader
Analytics & Information Management Solutions
Deloitte Consulting LLP
+1 609 520 2362
jojymathew@deloitte.com
Debbie Reed
Senior Manager
Deloitte Consulting LLP
+1 813 470 8675
dereed@deloitte.com
Christopher Toto
Senior Manager
Deloitte & Touche LLP
+1 212 436 6291
ctoto@deloitte.com
Sharon Weinstein
Managing Director
Deloitte Corporate Finance LLC
+1 212 436 6076
shweinstein@deloitte.com
Marc Zimmerman
Director and Co-Leader
Analytics & Information Management Solutions
Deloitte Consulting LLP
+1 203 905 2826
mzimmerman@deloitte.com
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