This is the third installment in a recurring series on Third District and national trends in bank mergers and acquisitions. "Factors Affecting Bank Acquisition Valuations," published in the first quarter 2008 issue of SRC Insights, discussed key factors affecting the bank acquisition valuation trend during the five-year period of January 1, 2002, to December 31, 2006. Specifically, it noted that acquiring banks were paying a significant price-to-book premium for target banks, and that by the end of 2006, valuations were at record levels. "Bank Mergers and Acquisitions Slow with Economy," which was published in the first quarter 2009 issue of SRC Insights, extended the original study to June 30, 2008. It noted that economic and financial conditions deteriorated significantly during 2007 and the first half of 2008, and the challenges of the weak housing market, subprime mortgage crisis, a slowing economy, reduced liquidity, and capital issues led to a decline in the number of bank acquisitions and lower price-to-book premiums paid for target banks.
For this article, data from 771 U.S. commercial banks acquired from January 2002 to June 30, 2009, were reviewed to update the 2002—June 30, 2008, analysis. In general, the analysis found that bank mergers and acquisitions continued at a slow pace, and price-to-book ratios continued to slide (Fig. 1). In addition to a sharp decline in price-to-book valuations, the overall number of nationwide acquisitions also declined sharply. During the first six months of 2009, there were only 13 acquisitions, compared to the 67 acquisitions during the first six months of 2006, a strong period for bank acquisitions and mergers.
The factors from the 2002—June 30, 2008, analysis were reevaluated to include the bank mergers and acquisitions completed from July 1, 2008, to June 30, 2009. Some of the prior conclusions were not consistent with the current analysis; specifically, in the prior two studies, a higher price-to-book premium was paid for banks outside the acquirer's state. From January 2002 to June 30, 2008, interstate bank targets received a 2.53 average price-to-book value, while intrastate targets only received 2.31. In contrast, in the period July 1, 2008—June 30, 2009, interstate banks only received a 1.17 average price-to-book premium, while intrastate banks received a 1.39 average price-to-book value.
Also in the prior studies, the total asset size of target financial institutions had an impact on the acquisition price, as the price-to-book ratio appeared to increase with the total asset size of the acquired institution. However, from July 1, 2008, to June 30, 2009, large target institutions received a lower price-to-book premium than the smaller target institutions. Banks with assets exceeding $1 billion received a 0.88 average price-to-book ratio, while banks with less than $1 billion in assets received an average of 1.02 price-to-book premium.
Despite these changes, strong composite CAMELS and RFI/C ratings and core deposits continue to demonstrate a solid relationship to higher price-to-book values. Geography also still plays an obvious role in price-to-book as well, but the ratios in each region have changed noticeably.
In theory, financial institutions that have solid overall performance should expect to receive a higher price-to-book premium. As solid overall performance commonly results in composite CAMELS or RFI/C ratings of strong or satisfactory, it is not surprising that examination and inspection ratings correlate and correspond to price-to-book premiums paid. This fact was evident in the 2002—June 30, 2008, analysis and again proved to be the case with the recent data.
The average price-to-book premiums paid during the January 1, 2002—June 30, 2008, time period for 1- and 2-rated banks were 2.59 and 2.46, respectively, while 3- and 4-rated banks received 2.05 and 1.54, respectively (Fig. 2). During the last 12 months, 1-rated banks received 1.66, while 2-rated banks received 1.26. The average price-to-book premium for a 3-rated target was 1.12, and there was only one 4-rated target, which received 1.20 times book value. Although the premiums paid were consistently lower during the past 12 months, we found that higher rated banks continued to consistently receive a higher price-to-book premium than lower rated banks.
In the prior studies, target banks with a high percentage of core deposits received a higher price-to-book premium. This continues to be the case, as banks with core deposits over 20 percent received a 2.33 price-to-book premium, while banks with lower core deposits of five percent or less only received a 0.78 average price-to-book value.
During the last 12 months, target institutions across the nation received lower price-to-book prices (Fig. 3). For example, target institutions in the New York and Richmond Districts received 2.29 and 2.23, respectively, from 2002—June 30, 2009. However, from July 1, 2008—June 30, 2009, they only received 0.82 and 0.78, respectively. The targets in the Dallas, San Francisco, and Atlanta Districts continued to receive high price-to-book ratios—2.64, 2.15, and 1.75, respectively—from July 1, 2008—June 30, 2009. The few institutions acquired in these Districts during this time period had strong composite CAMELS and RFI/C ratings and relatively high core deposits ratios, which is consistent with the prior two studies, in that acquirers were willing to pay a premium for quality institutions.
The highest price-to-book premium paid in the nation from July 1, 2008, to June 30, 2009, was Hillister Enterprises II Inc.'s purchase of Crosby Bancshares in the Atlanta District for 3.37 times book value, whereas the lowest price-to-book premium over the last 12 months was Wells Fargo & Co.'s purchase of Wachovia for 0.23 times book value. It is interesting to note that the Wachovia Corp. deal was also the highest amount, at $15 billion.
Institutions acquired in the Third District received a 1.37 average price-to-book premium from July 1, 2008—June 30, 2009, which was a significant drop from the 1.73 average during July 1, 2007—June 30, 2008. The highest price-to-book premium paid in the Third District during July 1, 2008—June 30, 2009, was Penseco Financial Service's $58 million acquisition of Old Forge Bank, which was priced at 1.72 times book value.
Deterioration in economic and financial conditions has led to a decline in the number of bank acquisitions and lower price-to-book premiums paid for target banks. Multiple factors influence the price-to-book premium paid for financial institution acquisitions. Acquiring institutions are not willing to pay a higher price-to-book premium for large out-of-state targets, as they did in the past, but institutions that have strong overall performances and ratings are still considered more valuable. Similarly, banks with high core deposits receive a higher average price-to-book premium.
Known for departing bits of wisdom in his quotes, Ben Franklin once said, "Nothing is certain but death and taxes." And, in the bank acquisition business, it seems that nothing provides certainty but strong ratings and high core deposit ratios.