Stark Choice: Invictus Consulting Says Regulations and Economic Conditions to Force Banks to “Buy or Bleed”

New York - 24 October 2012

Banking M&A Activity Expected to Increase Sellers Need to Move Rapidly or Risk Losing Value

Banking industry advisor Invictus Consulting Group LLC today released the first report of its kind quantifying the impact that the Dodd‐Frank Act, Basel III and other upcoming new regulations are likely to have on M&A activity affecting the nation’s 7,200+ banks. Titled “Buyers and Bleeders,” the report finds potential for a massive industry consolidation, particularly among community banks. This consolidation will lead to fundamental changes in the way services are provided to retail and commercial customers, particularly on a local basis.

Disturbingly, Invictus’ analysis demonstrates that the amount of capital needed to acquire potential sellers is significantly greater than the capital available from within the industry for acquisitions. The imbalance strongly suggests that those banks that move quickly will achieve better results in terms of pricing themselves.

Report Highlights

  • 1,953 banks (28% of total) with required or reported Tier 1 capital of $139.0 billion and assets totaling $1.2 trillion must or should sell.
  • 3,659 banks (52%) with available free capital of only $57.6 billion and assets totaling $2.2 trillion must or should buy.
  • Due to the capital imbalance between must/should sellers and must/should buyers, a buyers’ market should develop in most states, which could “bleed out” the value of many of the sellers.
  • As a result, sellers should seriously consider some M&A activity immediately to maximize value.

The report was based on stress testing each bank’s capital, employing parameters outlined by relevant regulators and Dodd‐Frank. Banks with more than $50 billion in assets must stress test themselves twice a year, those with $10 billion or more will have to stress test annually, and those with less than $10 billion need to engage in capital adequacy planning, which should incorporate a stress test. As a consequence, the level of return a bank can make on its stress tested capital has become one of the key metrics for valuing every bank.

“Based on the numbers, it is clear that the face of banking will undergo an enormous change over time,” said Kamal Mustafa, Chairman and CEO of Invictus, and former head of Citibank’s M&A practice. “Many banks will need to consolidate to survive, while others have a chance to make game‐changing acquisitions. But the most significant finding of our report is the sheer magnitude of the disproportionate amount of capital needed to acquire banks that must or should sell ($139.0 billion) compared with the available excess capital from banks that must or should buy ($57.6 billion). Barring the introduction of capital from external sources, such as private equity, or a drastic and rapid improvement in the overall economy, bank M&A premiums may disappear and move rapidly to discounts. Banks that need to sell need to do it soon, or they will get caught in the rush for the door.“

Mr. Mustafa continued, “While we were the first to predict, back in January, that 750 community banks were unsustainable there is another, larger group of banks whose capital will permit survival in the short term, but whose returns are too low to provide an adequate return on shareholders’ capital. If they wait to sell, those banks will experience a decline in value which could spawn shareholder revolts.”

“The true winners and losers may well be based on the timing of their deals, and the accurate evaluation of their capital position and that of their counterparties on a combined regulatory basis,” said Mr. Mustafa. Thus, “some recent transactions might end up being viewed as overpriced in the near future.”

The public version of “Buyers and Bleeders” can be accessed on Invictus Consulting Group LLC website. The report details the potential numbers of buyers and sellers and asset values by state and regions, but does not identify banks by name. However, Invictus clients, which include banks, hedge funds and investment banks, can access the detailed data upon which the report was based. The data enables the screening and sorting of potential buyers and sellers on a contiguous state basis, and can calculate a potential acquisition’s impact to the buyer’s stressed earnings and capital levels.

Invictus’ Methodology

Invictus has been performing stress tests for the last four years on every bank in the country based on publicly available data and guidance from the Federal Reserve Bank’s initial criteria. This information is fed into the Company’s Invictus Capital Assessment Model (ICAM™). Performing those stress tests each quarter has enabled Invictus to construct the largest stress test database available, and use it in its customized client work. Back testing has consistently verified accuracy.

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