This week we sit down with Eric Corrigan, senior managing director of Commerce Street Capital, to get thoughts on post-pandemic M&A transaction activity.

To get Tom’s bond portfolio report, visit www.southstatecorrespondent.com/bondreport.

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Intro: Helping community bankers grow themselves, their team, and their profits. This is The Community Bank Podcast.

Caleb Stevens: Welcome to episode 37 of the community bank podcast. I’m your host for the day Filling in for Eric Bagwell. I’m Caleb Stevens. I serve banks in Georgia as well as in Kentucky and I am joined by the great Tom Fitzgerald, Tom, it’s good to see you today. How are you?

om Fitzgerald: I am good, Caleb. I hope you’re doing well as well.

Caleb Stevens:Doing fantastic. And I hope people have gone out to get your bond accounting portfolio trend report, go to southstatecorrespondent.com/bond report. If you haven’t gotten that. But for folks that don’t know what that is, Tom, tell us what have you been putting together each quarter for us?

Tom Fitzgerald: Well, as you said, Caleb, it’s a quarterly report. We do bond accounting for about 130 banks at about 12 billion in par value. So, for years now, I’ve been compiling that portfolio, as it were in into a, uh, into a quarterly analysis. And so, it gives me a chance to kind of see the changes that are going on in portfolios as far as composition. And also, it takes a look at how the trend and the characteristics and performance of the portfolio are changing. So, you’ll get information on what the book yields are doing, what the duration numbers are doing, what the unrealized gain or loss is doing, which is not good right now. But anyway, it’s a good, concise two-page report that will give, I think anybody that’s a community banker that has an investment portfolio and wants to see what the rest of the community bank universe is doing as far as South State bank is concerned. Go take a look at it, pull it down, download it. And you can use it for yourself or whatever purposes.

aleb Stevens: Good deal. That’s southstatecorrespondent.com/bond report. Well, I’m excited for today’s show Tom, because this is a topic we haven’t hit on in a while. We did one back in the fall with Brady Gailey. It may have been even earlier than that, I can’t quite remember. But M and A, certainly the landscape has changed as we seem to be coming out of the pandemic. So, talk about what we discussed today.

Tom Fitzgerald:Okay. Yes. We talked with Eric Corrigan and as you said, the last time we kind of covered this topic. It was sort of in the middle of the pandemic, there wasn’t a lot of activity. People were still trying to figure out when the end of this thing was going to come. So, we thought we’d revisit it as we now see sort of that light at the end of the tunnel. And Eric has a really good insight into what he is seeing as far as activity, which he characterizes as very strong. He sees valuations, also kind of moving in that northerly direction. So, I think anybody who’s kind of contemplated a sell or even a buy, I think would find out, our discussion, with Eric today very interesting.

Caleb Stevens:Good deal. Well, we’re going to get to that in just a second, but before we dive into today’s episode question for you, what you do when a borrower asked your lenders for a long-term fixed-rate, do you go ahead and make the loan and take on that excessive interest rate risk? Do you maybe try to talk them into a shorter-term and risk losing their business? Do you sign them up for a traditional interest rate swap program complete with derivatives, hedge accounting, and documentation, that’ll make your CFO’s head spin? That’s exactly why we created the arc program with arc you can offer up to a 20-year fixed-rate loan to your borrower while booking the loan at a floating rate on your balance sheet.
No hedge accounting, no derivative, no Dodd-Frank reporting just a floating rate. Additionally, your bank can earn up to 2% of that loan amount upfront that you can recognize as income immediately, a floating rate for you, a fixed rate for your customer. It’s that simple. So, if this is a challenge, your bank is facing, we’d love to see how we can help you offer your borrowers, our rate and structure. They can’t refuse to learn more and get started to go to southstatecorrespondent.com/arc that’s ARC. Well, there’s our, advertisement for today plugging one of our products. Appreciate you guys tuning in today. And with that here is Tom’s conversation with Eric Corrigan.

Tom Fitzgerald: Well, Eric is great to get with you, this morning to talk about M&A. First things first, maybe tell the listeners out there about your position and your firm as well.

Eric Corrigan: Sure. Tom, thank you for having me I appreciate it. I’m the senior managing director and the head of the financial institution’s group at Commerce Street Capital. We’re based in Dallas, Texas, it’s a privately held firm with about 50 of us, and we long have, emphasis and expertise in financial services, M and A, and capital raising.

Tom Fitzgerald:Great, great. We did an M and A discussion about six months ago or so with Brady Gailey, but we, at that time it was hot and heavy and in the middle of the pandemic. So, the activity in the M and A world was sort of on-ice at that time. Today things have changed and with the improving economic situation, we can kind of see the light at the end of this post-pandemic world. I would imagine you are seeing better activity than probably what we had last year. Can you kind of characterize it between, say one and 10, one being very little, no activity to 10 is just kind of off-the-charts type of activity, where do you see the market right now? Which way do you see it trending?

Eric Corrigan:Well, I’d have to say right now, we’re certainly at a seven or an eight and trending towards the pen. There’s a lot of pent-up demand. I think when you read all the press about pent-up consumer demand, there’s also a lot of pent-up business demand businesses put off, a lot of things they were interested in doing while they were dealing with the pandemic. And now that bank stocks have recovered and are trading a bit higher than they were before the pandemic. It is certainly accelerating the number and the seriousness of the conversations that we’re seeing. We’re on track right now to do 132 transactions this year, if you just analyze it, but it’s picking up just even in the last six weeks. So, I would expect that we’re going to get closer to 150 to 160 historically we do about 200 a year. So, we may not get back to normal until the end of the year, but certainly, we’re trending that way.

Tom Fitzgerald:Do you see a region of the country that’s kind of really hotter than others right now? Or is it pretty much across the board?

Eric Corrigan:That’s an interesting question. I haven’t looked at the geography. We’ve had big deals in the Midwest, big deals in the Northeast big deals in the Southeast, in the West. So, I don’t know that there’s a particular geography longer term. You’re seeing more of a movement just like you are in the demographics of the country, to the Southern half of the country in the West. So, where people go is where banks go. And so, longer-term, you’re going to see, I think more transactions in that part of the world, but in the Northeast, banks are merging just because they need to cut costs because they have effectively a declining customer base.

Tom Fitzgerald:Kind of lastly, on this topic, are you seeing more seller’s kind of coming to you or is it more buyers, or is it just kind of an even mix?

Eric Corrigan:There are always more buyers than sellers. There’s an old saying banks aren’t bought they’re sold, which means banks only sell when they want to sell. There’s some reason they’re doing it. There is a succession issue. There’s a liquidity issue, there’s a capital issue, or a regulatory issue. There’s something that has made them make that decision to sell. For every bank I represent who is approached by five or six banks to buy them, they oftentimes just won’t even engage in it. And at some point, they’ll say, you know what, it’s time. And then they’ll decide. So, the sellers in our world always control the narrative. That’s very different than other industries where you could see, a private equity firm identifies a low trading industrial company and lob in a bid in banking that just doesn’t happen. And so, there are so many social and regulatory issues you have to work through. There are always more buyers than sellers. If you did a survey and said, are you going to buy this year or sell this year 99% would say, they’re buying no banker will ever admit that they’re going to sell.

Tom Fitzgerald:Alright. I’m going to move to another topic here that might be a little sensitive. I figured most of our listeners are bankers, but I’m sure we have some credit union listeners as well, but I just want to ask your thoughts on this. In recently, there was this large credit union that purchased a bank and I’ve seen smatterings of these transactions, occur before, but do you see that becoming a bigger part of the market or is it just going to continue to be sort of this niche play that kind of goes on in the background?

Eric Corrigan:It’s a real thing. I mean, it represents probably in 2019, it probably represented a little under seven and a half percent to 8% of all the transactions announced. Our firm represented a bank in the state of Oklahoma and the sale to a credit union. So, we’ve been involved in these transactions. They’re very interesting. They’re very different. They serve a particular type of seller. And there’s a lot of benefits to them from the seller’s perspective, which is why I think some bankers have kind of I’ll call it, sucked it up and decided, if this is the best thing for my shareholders and my employees and my customers, this is what I’m going to do. What’s interesting about that transaction and Georgia to me is that’s a public company. So, it’s a little different. We’ve mostly seen these between credit unions and privately held banks, but that’s a public bank.
They will have to do a proxy; they will have to do a shareholder vote. And so, it’s a big deal too, that’ll get the attention of people in Congress. It’s already got the attention of state legislatures around the country. Colorado effectively banned the practice. And as a result of the transaction, there had to be canceled. So, there is massive lobbying going on behind the scenes. And it’s a little bit like that, a song from the musical, Oklahoma, why can’t the ranchers and farmers just be friends and that’s what we’re faced herewith. You’ve got two industries that are really at odds with one another, and yet they’re starting to cross over. And I would see this happening going forward. It’s not going to stop until there’s some legislative or regulatory prohibition.

Tom Fitzgerald:So, stay tuned. The story continues to unfold apparently. That tax advantage, it’s just, as you said, some bankers just say, well, boy, I’m getting offered a great price here. And your kind of just swallow hard and sign on the dotted line.

Eric Corrigan:And it’s not just the taxes, sorry, let me interrupt you. It’s not just the taxes. The issue is also that the Credit Unions usually keep the entire staff in the pact. And so, it’s not a cost-saving play, it’s an expertise play where they need the expertise of the bankers. So, that’s very different from other mergers. So, from an employee perspective, it’s usually a pretty good outcome.

Tom Fitzgerald:And that’s a good point because, as you said, in a lot of just traditional mergers, there’s always that, that operating expense element that is at play in the whole numbers of the transaction. Moving on to Cecil, which was a big issue, kind of before the pandemic hit, as far as its impact on M and A, can your kind of just talk briefly a little bit without getting into, all the accounting weeds, how that standard sort of kind of stymied or was kind of roadblocked in a few ways to M and A, active.

Eric Corrigan:I don’t know if you want to get me on my Cecil. I happen to think it’s one of the most illogical accounting standards that have been implemented in the 30 years that I’ve been in the business. If I was a banker and I was making a loan and I expected to lose money on it, why would I make the loan? Just think about what Cecil is asking you to do. So, that means you either underwrote it poorly. Your collateral is bad. There’s something about that loan that’s telling you that you’re going to lose money. So, if that’s true, what lender in their right mind would make a loan. So, first of all, I think it inhibits lending, which is what bankers are in the business of doing. Second of all, I think it’s pro-cyclical. So, just look at what happened through the pandemic. We had every big bank, every bank that had implemented Cecil take massive reserves. And then what are they doing now?
They’re unwinding them. So, if I’m a bank investor, how do I get my head around what normal earnings are? How do I get my head around what valuation should be? It’s one thing if you actually started to see losses and you adjusted your reserves accordingly, but to anticipate losses is just as much of a guessing game as anything else, no matter how good your economic models are. And that was born out during the pandemic. So, first of all, I just think it’s a bad standard. The second thing is when you do M and A, it complicates everything. You have Cecil banks and non-Cecil banks. You have two Cecil banks look at the cadence transaction that was just announced this past week. The Mark that bank Corp South is taking is very large. It’s over almost a $500 million credit. Okay. Intuitively shouldn’t have cadences allowance already been $500 million higher.
Why are two different parties coming to different conclusions about the same set of assets? If Cecil spoke to anticipate losses, why hadn’t they already been embedded and cadences allowance? So, I think it’s the complicated math after the transaction, it complicated the math going into a transaction. And it’s unnecessarily complicated about how investors try to evaluate banks on an apples-to-apples comparison. Let’s say I have one bank that has implemented Cecil and another, that hasn’t, that I have to make a bunch of assumptions. So, I guess in time everybody will be on the same standard, but I would have to say I’m very supportive of congressional action to undo what I think is just something that doesn’t work. It doesn’t work well, and it’s just making consultants and accountants very wealthy.

Tom Fitzgerald:Yes. And I think the whole folly of trying to forecast over the life of the loan was brought out just when the fact that the standard came out and within was a year or two, you had a global pandemic and I can’t imagine anybody in their forecast had global pandemic down in their economic forecast early on in the life of a loan.

Eric Corrigan:Yes, if you had a global pandemic on your bingo card, you win bingo.

Tom Fitzgerald:That’s right. Moving on, as far as recent transactions that you’ve seen, what are the value ranges that are being received now? I’ve got to imagine they’re certainly moving North and probably going to get continue to do so, but kind of just give us your thoughts on some of the values you’ve seen and where you think they may be headed, through the end of this year and into next year.

Eric Corrigan:Well, values rise when stock prices rise. So, if you just compare,2020, where we have little activity and low stock prices to 2021, they’re rising, they’re getting back to what I would call normal. For the year right now, they’re at about one 50, two of tangible books. The normal would be around one 80, but we’re seeing deals done above two times tangible book and certainly above 180. So, they’re trending where we would have seen them historically. So, there’s a very strong correlation between where banks trade and then where M and A deals get done. So, as long as banks continue their upward trajectory and trading, we’re going to see higher prices.

Tom Fitzgerald:Yes, I think you’re right. I think most people at this time last year, certainly we’re really worried about what kind of credit losses banks would be taking and how that would impact their valuations, but certainly so far, at least knock-on-wood. Those credit losses have been a lot less than what they’ve reserved for. And I think slowly, we’re starting to see that reflected in stock prices coming back. And this week, obviously some of the larger banks are reporting. They’re talking about their net interest margins, finally stabilizing. And if not starting to move higher at some point later this year, if the loan to the bank and can get there. So again, I agree with you. I think certainly those values are only headed North for now. This must be a very interesting area in which to work and advise on. So, is there one transaction that has stood out to you recently that kind of was interesting for one reason or another to you?

Eric Corrigan:Yes. All of them have their quirks or interests if you will. I think the things that I’m seeing that kind of portend a longer-term trend are things like, [inaudible 19:24] and I’m buying a golden Pacific out on the West coast, to get a bank charter or lending club having done the same thing with radius bank, up in the Northeast. And so, this trend of FinTech filing, finding, that they want a bank charter. And instead of going through the DiNovo route or the industrial bank route, or just sucking it up and buying banks, that’s interesting to me. And I think we’re going to see more and more of that. What they’re going to find though is then they will start to trade like a bank.
So, if they want to be a tech company, they kind of have to stay a tech company, but if they want the benefits of access to the payment system and deposit funding, they’re going to have to live with the fact that they will become more like a bank and they will trade like one. I think the other two transactions that are interesting, both involve companies that are in the wealth management space, Boston private, up in Boston, obviously selling to Silicon Valley bank out of the West coast and then Bryn Mawr, which is a private client bank in the Philadelphia area selling to a Whispers Wilmington Savings Fund Society.
And that’s a movement towards getting fee income. If net interest margin is under pressure and lending is not happening, then the other revenue source you can generate is fee income, which is especially in wealth management and private client, businesses are very stable, tends to grow, and is valued highly by the market. So, I would continue to think we’re going to see a transaction that where people are looking for fee income sources, but also where we see non-banks, look at banks. The other thing that I’ll tell you about this happening, that I have not seen as much activity in as many years as I’ve been doing this is people approaching our firm and saying, I want to buy a bank.
And these people have been successful in other industries and suddenly have decided that they want a bank. And they view it as a diversification play a long-term 50-year type family investment play, or that they think that they could modernize the banking system and that’s just happening across the country. And it’s not just me, I’ve talked to some of my competitors, over lunch recently. And he told me the same thing, the number of calls they get for people looking to buy a little bank somewhere and turn it into something has just accelerated. So, kind of an interesting thing from the demand side of the equation.

Tom Fitzgerald:That is interesting. And the fact we’ve heard a couple in our client base that has some banks are owned by wealthy individual or family. That’s just, as you said, it’s just something that they want to do as part of their portfolio of assets. So, it’s interesting to hear that you’ve seen that same type of activity, I’m sure some of this discussion today has picked the interest of some of our listeners. Certainly, the valuation trends that we’re saying. So, if you’ve got somebody out there that’s kind of thinking about maybe putting a for sale sign on the bank or depository, what are two or three things that you can think of for them to kind of do to prepare or to clean up before they start actively marketing their institution?

Eric Corrigan:I think the first thing we tell people is you have to run your bank as if you’re going to remain independent. You can’t run a bank to sell it. And so, you just run it normally. You have to continue to believe that there isn’t a buyer out there. And so, you have to run it for the long term. At the same time, there are some things you do to make sure that if you go down that path, you don’t sabotage it. So, the first thing is it’s really important to think about the long-term contracts you enter into particularly core processors and data processing and anything that has to do with the back end of how you run your company. I have seen deals fall apart because the breakup fees in those contracts are so onerous that it hurts the math of the transaction. And it either has to be remedied through lowering the price, or that they have to wait.
So, if Jack Henry or Pfizer or whoever your processor is, is pressuring you into a seven- or eight-year contract, think of the, are you going to be selling with them seven or eight years? And what is the breakup fee? Think about those things. Maybe you’re better off doing shorter-term contracts. Are there credits on your books that maybe you should take care of, you should take care of? Don’t let the buyer dictate that if you think it’s worth 80 cents on the dollar, they’re going to say it’s worth 50 and that’ll be reflected in the price. Make sure that if you have key employees that you and your counsel have put in place, employment agreements that reflect what happens if you do so. Don’t wait until the last minute. And then what you should expect if you go down that path, if you say you’re going to sell your bank, you need to get your mind around the fact, especially if you sell for cash, you are selling and you don’t get to say how the bank will be run going forward.
Now, if you’re taking stock and it’s a merger, and there’s a lot of social issues that get negotiated, that’s different. But if you’re just hitting the best price and taking cash and maybe doing a transitional period, don’t expect that the buyer is not going to change everything. I had a funny thing happened. I was playing golf one day and we were walking by a house and it happened to be playing partner. And I, it was his old house. He had sold it about six months earlier and the new buyer had painted it. And he said to me, I can’t believe he painted my house. And I turned to him and said, Mike, it’s not your house anymore. So, remember whoever the buyer is, they can paint your house, whatever color they want. Okay. You may not like it, but that’s the truth. And so, you emotionally have to get yourself ready for that. If you’re taking stock, think about what you’re taking, take that decision the same as if you were investing in a stock. Is it liquid? Can you trade it? Where’s the valuation? Is it undervalued or overvalued?
You have to make that decision because if you’re taking stock, it’s not any different than going into the market and making that same decision about that stock find some research, look at their investor presentations, figure out how they sell themselves to the market. The other thing is there’s no such thing as a merger of equals, there is always somebody who will be slightly more in charge and that’s okay because that’s the only way you can get decisions made. And so, make sure you understand whether you’re the person who will have control of decisions or the other party because if there isn’t a decision-maker, nothing will get done. The last thing I’ll say is it’s really important to keep the circle of knowledge, very tight.
If you are going down this path, you don’t want your employees to be frightened. You don’t want your customers to leave. You want to keep this to your board and your advisors, and to only those people who need to assist you in the process, it will inevitably start to leak out and you’re going to have to make people feel comfortable because each individual will ask, well, what’s in it for me. And you have to make sure that you’re able to give them some direction about what will be happening next. So again, run your bank like you’re going to run it forever, run it well. And the rest of it will take care of itself.

Tom Fitzgerald:Thank you very much, Eric. That’s excellent information. I think we’ve probably sparked some interest on the part of our listeners and if so, tell them the easiest way to get in touch with you to kind of start to pursue a transaction may be on their end.

Eric Corrigan:Sure. You can go to our website, commercestreetcapital.com. All my contact information is there. My email is [email protected] Please feel free to reach out to me. I’m on LinkedIn as well. I’m happy to talk to you. As I say, the first call is free. After that, we’ll figure out something, if it turns into something more meaningful, but we love to talk to people. We have a great conference that we’re going to be hosting and September a big conference it’s designed by bankers for bankers. It’s all your peers talking about the issues that are important to them. We’d love to have you attend it’s in Dallas at the Four Seasons Hotel. We also have a golf event, before the actual event. It’s just one day, come out and visit us, come out and network with a bunch of your peers and learn something while you’re there. So, we’d love to see you. I love that the folks at South State are doing this and getting the word out and using new methods to educate our industry. It’s something I’m passionate about and something I care about.

Tom Fitzgerald:Thank you. And we’re glad just to hear that conferences are coming up again. It’s been over a year now where it’s all been zoom calls and teleconference calls. So, I’m just glad to hear that there are better days on the horizon.

Eric Corrigan:I agree with you. I think we’re all zoomed out.

Tom Fitzgerald:Yes, I think so. But again, thank you so much for carving out a little bit of time of your day for us and giving us your thoughts on the M and A market it’s been very valuable to me and I’m sure to our listeners as well. So, thank you.

Eric Corrigan:Absolutely. No problem.

 

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