Stimulate Profit and Growth Through Acquisition!

Analyzing a potential acquisition involves both financial and nonfinancial factors. In fact, many times nonfinancial factors become more important than the financial factors in determining whether an acquisition is likely to occur.

Ideally, you should develop a written profile of the bank or branch that would best fit your business objectives. The profile should include all criteria you consider to be important for an acquisition candidate. The criteria might include the following:

•        Size of Bank or Branch
•        Location
•        Market Characteristics
•        Price
•        Growth Rate
•        Management
•        Image
•        Deposit Mix

•        Cost of Deposits
•        Loan Portfolio Mix
•        Loan Yields
•        Loan Demand
•        Overall Asset Quality
•        Organizational Fit
•        Special Conditions

When selecting acquisition candidates there are a number of financial factors:

•        Earnings
•        Financial Stability and Consistency
•        Market Areas
•        Market Diversification
•        Quality of Assets

•        Capital Adequacy and Debt
•        Asset/Liability Mix
•        Accounting Procedures (Tax Status)
•        Off-Balance-Sheet Risks

Your analysis of potential acquisition candidates should include the following
nonfinancial characteristics:

•       Corporate Culture
•        Regulatory and Anticompetitive Factors
•        Management
•        Markets
•        Geographic
•        Personnel
•        Technology
•        Potential Effects on the Customer Base

Once you determine who really controls the bank, I suggest you ask the following question:    ü     Why is the Seller Selling?

Among the answers you will probably hear are these:

• Management Concerns
• Competitive Factors
• Capital Adequacy Problems
• Operating Problems
• Asset Quality Deterioration
• Avoiding an Unfriendly Takeover
• “Personal Reasons” (profit, ego, liquidity, age, avoidance of family problems, etc.)
  

In preparing for negotiating the price to pay for the bank or branch you will
want to consider the following questions:

• Financial Information
• Corporate Information
• Other Information (An extensive list should be detailed)
• Lending
• Asset/Management Discussion
• Operations
• Deposit Analysis
• Internal Controls
• Pending and Threatened Litigation
• Employee Benefits Programs
• Pending and Filed Regulatory Applications
• Closing Documents for Prior Mergers or Acquisitions
• Review of Compliance with IRS Information Reporting Requirements
• Regulatory Compliance

Buying a branch facility does not involve the acquisition of equity, only the value of a location and the related deposits and assets. Rarely are the prices paid for branch locations available, so the use of previous branch sales data from comparison pricing will not be possible

Traditional standards for bank purchases, such as a specific multiple of equity book value or multiple of earnings, are difficult to apply because these price gauges are determined by comparison to an institution’s operating earnings and equity balance as provided on its financial statements. Therefore, a pricing method based on valuation of the deposit base has become the most common approach in gauging the value of a branch.

When a deposit pricing technique is used, the appraiser values the earnings assets, fixed assets, deposits, other liabilities, and intangible relationships through appropriate market, cost, or income approaches. By acquiring “aged” deposits, the buyer obtains immediate access to retail deposits and wholesale funds in a local market. But, perhaps more important, the buyer acquires a customer base for cross-selling additional financial services. Depending on the perceived value of this customer base, the premium for a specific pool of funds may vary significantly.  

Another approach to valuing deposits is to concentrate solely on their value as a source of funds. When the average cost of the deposits is compared to the going market rate for alternative sources of funds (jumbo CDs) and the yield available through using the funds as earning assets, a premium for the core deposits can be identified.

Because the deposit pool is usually the major component valued, the value of deposits is based on the present value of the future cash flows or earnings these deposits can generate over their useful lives by investing in specific earning assets. There is a six-step process:

1. Segregate the deposit base by type (DDA, NOW, etc.)
2. Estimate the initial amount of deposit runoff and future growth for each deposit type.
3. Estimate the earnings that will be generated from the deposits by allocating the estimated available deposits to various types of earning and nonearning assets.
4. Estimate the average life of deposits by type.
5. Determine an appropriate discount rate (ROE or rate paid to attract new capital).
6. Calculate the net present value of the future stream of earnings over the estimated useful life of the deposits.

Finally, it is useful to prepare projected financial statements of their bank with and without the branch. Estimated growth in deposits at the potential new branch location is an important factor that must be considered. A goal should be to acquire locations that have growth potential sufficient to offset the negative impact of the premium paid for the deposits.

Factors other than the value of deposits must be considered. Besides calculating the interest rate on any loans and securities available, you must ascertain that the allowance for loan losses is adequate for the loan quality offered. The book value of the fixed assets as compared to their appraised market value must also be examined.

Calvert Consulting is prepared to work with you in this process. As a Certified Management Consultant, Bob Calvert will work with you to evaluate your proposed bank or branch acquisition and move you toward the goals you have set. We will give you a written recommendation and work closely with you in negotiating your acquisition. We will give you a proposed project fee cost after meeting with you to assist you in defining the project. Our fee will be plus normal expenses such as materials, travel, copying, reports, postage, lodging, telephone, etc. One-half of our fee is payable as a retainer upon the signing of an agreement; the balance is payable upon the completion of the negotiations.

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