M&A Strategies for Banks & Credit Unions

Financial institutions should consider M&A as a strategic growth option. The key to an effective transaction is ensuring ensure board members and the C-Suite are on the same page. In this month’s podcast, David Ritter, Managing Director at ALM First, talks about the environment for M&A activity and how boards and executives can come together to achieve growth objectives. 

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In Your Best Interest – an ALM First Podcast

M&A Strategies for Banks & Credit Unions 

Published September 15, 2021

David Ritter (00:02):

What are seeing more and more is mergers of equals. It's not a large organization going in and talking to a smaller organization and just acquiring them and say, do it our way. It's between two well-run large institutions that could do better together for their members, their employees, their communities, and their boards of directors.

Mike Ensweiler (00:29):

Welcome everyone to the 15th episode of In Your Best Interest, an ALM First podcast, a show that will explore common depository challenges, give you an insider's view of the latest market trends and share stories and insights from industry leaders. I'm your host, Mike Ensweiler. I was reading a recent publication from E&Y on strategy and M & A survey results coming out of the pandemic lessons learned from this global crisis are bolding and executives to make deep far-reaching changes to fundamental aspects of their businesses. COVID-19 has led to an even greater focus on transformation and companies now plan to not only restore performance, but also to reframe their futures for an improved post pandemic world. And many are opting to transform through M and a. In other words, many of those that have been on the sidelines are now pursuing M and a activity they're seeking to acquire innovative startups and tech enabled competitors to get even closer to their customers for depositories. That means augmenting narrow net interest margin and to enhance the digital channels that have proved vital for leading companies in the lockdown recession. The strategic reset coming out of this crisis is firmly focused on a new growth agenda. It also provided a clear view of how to get there reset realign and restart. I wanted to see how this specifically applies to the credit union industry. So I have asked David Ritter, a managing director at Alun first to share some insights with us today.

Mike Ensweiler (02:22):

Thanks for joining us today, David. It's great to have you back.

David Ritter (02:26):

Thanks, Mike, always a pleasure,

Mike Ensweiler (02:27):

David, you were with me on episode two of the podcast, and now we're on episode 15. That was, you know, at least a year ago. And so I know the, the pandemic is, is certainly, you know, changed how we view the world. And, but in the meantime, you continue to, to talk to institutions daily, um, about M and A, and that still, especially as we've come out of this pandemic, seems like something that's gaining more and more interest as institutions look to transform not only their digital strategy, but they're there, you know, corporate strategy as well. So maybe we can set the stage by talking a little bit about what you've seen in terms of M and A activity. Maybe walk us through what it looked like. Pre pandemic is all the way up to today and what you're seeing now.

David Ritter (03:15):

Yeah. Uh, pre pre pandemic. Uh, there was a lot of organizations that were talking, but some that were on the sidelines and you saw more credit unions looking to acquire banks. We're looking at a couple and because of the pandemic, uh, evaluations dropped and everyone got a little bit nervous about what was going on were sure what was, uh, uh, expected with COVID. We still don't. Um, but you've seen some more of these transactions happening as of recent and, uh, with credit unions, uh, acquiring banks. But what I've seen a lot of is credit unions talking with other credit unions and ones that have been on the sidelines for a long time have I'll call it the tipping point where folks are saying, you know what, this is an opportunity for me to go reach out to another like-minded credit union, to accelerate our growth for our membership, for retaining our employees and doing the good things for our communities.

David Ritter (04:12):

So with everything going on, just the intensified need for scale is huge. And, uh, in, in tandem with the net interest margin, do we have any of that anymore? So looking at other avenues for revenue, uh, to, to augment our capital, uh, we're seeing this more and more is that it, especially if, uh, another organization has accused so or other, uh, non lending products, maybe we can get in and collaborate together, but also in terms of physical distribution channels, um, and technological, we saw that in, during COVID, um, members, if they didn't have a branch to go to, they would going to, to, uh, look at digital platforms. Well, some organizations didn't have the capital or the wherewithal to be on some of the best systems, those types of things. So it's just been a, it's been a tipping point with COVID. Everyone seems to be talking right now, um, organizations are doing well, but they're at least wanting to do, put their fiduciary responsibility in front of, uh, uh, themselves and their members.

Mike Ensweiler (05:20):

So, and that all makes perfect sense to me. You know, what are some of the things that you're seeing that have changed since COVID in terms of deal structures?

David Ritter (05:29):

The biggest change right now I've seen, and I've used this, this phrase a lot, is it used to be the race to two 50 race to 500. And I hear it all the time as a race, to a billion in assets. However, I have a lot of credit unions, clients that are over a billion that just realized the need for scale. It's not that they have to do anything, but let's at least collaborate as opposed to compete. Let's come be on one core system, have a much larger capital base to continue the digital transformation side of things. We know that, um, physical distribution channels still are a very big key to, uh, I'll call it an expensive marketing, uh, option for our members. But what are seeing more and more is mergers of equals. It's not a large organization going in and talking to a small organization and, and just acquiring them and say, do it our way.

David Ritter (06:26):

It's between two well-run large institutions that could do better together for their members, their employees, their communities, and their boards of directors. One thing that I see a lot too, is the, um, the, the reach for, um, an acumen retaining obtaining talent employees, the folks that are really good at what they do are employed. And if, especially if you're at a, let's call it a $750 million organization, you have a superstar and Mary Smith, who's an EVP, but that person wants to make more money at maybe a one and a half billion dollar organization. That person could be potentially doing the same thing, but making more money at a larger organization. You just look at periods, sizes for compensation. So coming together collaboratively, uh, I see this more and more, and it's now, uh, more about putting our egos to the side and how we can do better together. I've seen that all over the country.

Mike Ensweiler (07:29):

That makes sense. You know, we, we've seen some headlines around credit unions buying banks, and you touched on it when we started. And I know a recent survey found that 60% of bank CEOs are open to being acquired. And the reality is that we've seen maybe 50 or so of these types of deals or transactions in the last four years. Talk to us about the pros and cons of these types of inner opportunities for credit cards.

David Ritter (07:55):

Absolutely. One of the big things we're seeing with credit unions looking to acquire banks is it's a few things it's in the credit union, the credit union, the merger side of things. There's no cash being transacted. It's all about emotions. It's about ego. It's about the humanistic perspective, um, with, and it takes, it takes a lot of time with a credit union acquiring a bank. Normally we see a credit union is looking to acquire the business lending or the business services or something of that nature. Well, what you got to look at is that when you do you go out and acquire an organization, a bank, um, we're seeing valuations being asked that are pretty high, um, anywhere from one and a half, maybe up to two times, or even higher than two times tangible book value. Now, if you put that perspective, let's just say a hundred million dollar organization with 10% capital.

David Ritter (08:52):

If you're going to acquire this organization at two tangible book value, that is two times 10 million. So you're cutting the check for $20 million for a hundred million dollar organization. This is going to affect your capital. So it's a, basically a one for one, your capital, uh, degra degradation. Um, and so it's all about retaining talent. So you're not going to get the economies of scale necessarily that you would normally see in a for-profit transaction that already has the, the acumen or the business services business lines. And we're just going to get synergies. It's actually acquiring the underlying talent. Um, so, but that doesn't say the whole story is you also have to make sure that those folks that you're sorta speak acquiring the commercial lending folks do not leave. So it's whether it's retention, bonuses, higher compensation, um, are what we're seeing. There is also other things that a credit union, when they acquire a bank, it's called an asset deal and not to get too far into the detail, but there's some tax implications for the seller.

David Ritter (10:02):

So behind the scenes, there may be additional, um, compensation or a diff additional consideration that you actually don't see, um, in, in the public, uh, space. The other thing is, um, retaining talent, as I mentioned. Uh, but one of the main reasons why credit unions look to banks too, is they don't want to have the emotions. It is more a business transaction. You get rid of, uh, uh, a board of directors or the shareholders. Now, the positive, what I see on credit union standpoint is there is no cash being transacted. It does take more time, but if you can look at an organization, that's the SIM similar size as yourself, you get, uh, the same, uh, or, or, or more product services, distribution channels. The customers members already know what a membership is like at a credit union. So there's not that learning curve. And so I think the biggest pro about a credit union mergers is there's no cash money transacted. Um, however, it does take more time. So just gives you a perspective of the pros and cons of the two. Um, I always say in a strategic planning initiative is you look at it both ways. Um, and how can your capital, if you have, if you're close to 7% capital, you're probably not going to be able to go out and acquire a bank, but you might be able to look at a credit union that has 8% capital and come together, uh, better together. Okay.

Mike Ensweiler (11:34):

Excellent. Okay, good. So now as a leader, and I'm thinking about M and a, I can either be proactive or I can be reactive. Talk to us about how to prepare for both a proactive and a reactive approach to emanate.

David Ritter (11:50):

Uh, Mike, that's a great question. What, what we see every time I talked to a potential client or board of directors or executive team that would like to throw their hat in the ring, sort of speak on mergers, they know exactly what they want. They want to be the surviving entity. They want to, uh, acquire another organization, whatever that is. And I said, okay, great. So do you have that written down as does the rest of your board and executive team have the same thoughts? Um, are you willing to talk to an organization that has cannabis lending? Are you willing to talk to an organization that's larger than you? Or what about, uh, you're a billion dollar organization? Are you willing to talk to an organization that's 10 million in assets that might be a great for you and their ma and other organizations members, but it does take a lot of time and I call it the bang for the buck.

David Ritter (12:43):

Well, once you start to peel the onion, I realized that not everyone's on the same page. So what I always suggest is having a questionnaire that goes out to both of your board and executive team that says, here's what we're good at, what we could do better at how can we help another organization? How can another organization help us? So it's, it's basically your, your normal strategic planning, but how can I augment my normal, organic, strategic planning with, um, uh, merger planning and how maybe I want to open up more branches? Well, is there an organization that has branches in the areas you want to do, uh, serve our members? So coming up with a strategy or a questionnaire that we we've, we facilitate questionnaires to come back and says, this is what our negotiating points are, both from a board and from an executive team, and then put them together to say, are we in alignment?

David Ritter (13:38):

Because more often than not, you're going to have some areas where we are not in alignment. Um, and why would you waste your time, effort, money to go out and talk to a potential, uh, organization when we can't internally be on the same page. So to wrap this up in a nice bow, what I say is you have to come up with a strategic plan with our negotiating points. That's a written and approved document because the hardest part about a merger is the board of directors. It's a, in a credit union to credit union mergers. And it's because we put our blood, sweat and tears in an organization. And if we start to go down a path, then we start to realize that, Ooh, this doesn't make sense. Well, you can go back and say, well, you approve this, that we're going to talk to a specific organization now, fiduciary responsibilities that we're going to continue down this path. So that's kind of my long answer to, uh, uh, this question that this is where I see, um, organization becomes successful is ha being prepared before they actually go out to market.

Mike Ensweiler (14:41):

I love it. So make this part of your strategic planning process and get all of the hard questions answered on the front end before you actually start down a path with another institution.

David Ritter (14:53):

Let me give you just a quick example of story. I had a client that wanted to be a billion assets in five years, they were around 600 million in assets. They want it to be a billion in assets in five years, with 9% capital. We got them to a billion in assets in one year with 13% capital by doing a merger. It made sense for the combined members. They combined 40% of the combined members had a branch closer to them. They had this great capital. They brought the entire boards together. Not that you necessarily have to bring entire boards together, but they wanted to make sure they have good representation of from both sides. And there were became natural attrition, and they knew that there was the ego of the both boards that, Hey, I'm not going to just give up my organization. I've been on the board for 45 years, but it was one of these things where it made sense for everyone, or they just wanted to see the transaction go through smoothly. They were doing well for their members, their employees, or communities, et cetera. And you know, what, three months after the effective date folks, they use this as a Swan song. And I moved off into the sunset and they came down to a more manageable level of a board, uh, structure, but they knew this going into it. They just wanted to make sure that they were doing right things for everyone. Okay,

Mike Ensweiler (16:07):

Great, great story. And that I think helps kind of shape the discussion. So, you know, outside of, of losing your identity or perhaps some, some hurdles with the boards, because we didn't have these upfront discussions, what are some of the other hurdles that you're seeing, um, in the merger process,

David Ritter (16:26):

It's always ego. It's about, um, the perception of losing it's the perception of being acquired. Uh, and it's a perfect example. When I tell a client that we're going to go out to market the first question, a, uh, when I reach out to another CEO, the first, uh, first response is, Hey, thank you for calling me or reaching out to me. Um, my board is absolutely looking at mergers. However, we must be the surviving entity and that's that's nine out of nine times is the response. And I say, okay, great. Well, what does that mean to you legally? It means which charter remains now, would you like to look at which one doesn't stymie our ability to continue to serve our membership and to grow our combined membership? Um, usually, you know, that's, that's a pretty simple way of saying, yeah, well, we want to continue to serve our membership and continue to maybe serve a larger membership base, but perception-wise has to do with, well, it could be the name.

David Ritter (17:30):

It could be the headquarters. It could be the number of board seats. It could be the majority of board seats. It could be the table officers or the executive board, uh, the CEO, the executive team, um, the core system, you get my drift, it start you. So you start to have to peel the onion and ask these questions earlier than later. So you don't kick the can down the road. So normally the first hurdle is just understanding that two organizations are coming together for the betterment of their combined shareholders, members, stakeholders, employees, and communities, and board. Um, and then realizing that the two CEOs are in this for the betterment of their stakeholders, but they can build a rapport together, trust and confidence that I am not going to be ousted unless it's like a CEO that wants to retire and move off into the sunset.

David Ritter (18:21):

But most credit union mergers right now between two CEOs that still have livelihood or, or, or retain tenure for the next five to 10 years. And so it's just getting them on the same page. And then the next would be the board of directors, which is always the hardest part. So getting the board of directors sooner than later, to get in a room and realize that the other side does not have three eyes, and they're doing this for the best of the combined members, we find to resonate very well. And honestly, I find that boards of directors meeting with another board of directors, they find their best friends and they go, wow, that's a really unique way of looking at this. So don't stymie the ability, you know, that you have to stay the, the combined or the, or the surviving entity go meet with that other board of directors. They're usually on the same wavelength. And they're just trying to do the best thing for the combined membership.

Mike Ensweiler (19:14):

So, you know, we, we talked about, you know, doing this on the front end as part of the strategic planning process, which means you're getting your board engaged a lot earlier. You know, I would think if I'm a credit union and I'm looking to buy a bank, that's probably easier because the owner or ownership group of the bank wants to sell. If it makes sense strategically for a credit union to either acquire or be acquired, how do you get your board on board to even consider mergers and having that as part of that strategic planning process?

David Ritter (19:46):

Uh, it's a great question. Uh, what we normally do is say, okay, um, your, your annual strategic planning meeting. If, if we, and it's the story I told earlier about, uh, an organization wanted to grow to a billion in five years, well, what about if we need additional capital or what if we're highly lent out and another organization has high liquidity? Well, in the last year we see a lot of credit unions have higher liquidity than, than, than they needed. And most people are not looking for most organizations are not looking for more liquidity, but that prior to COVID, that was a key determinant, a one with highly lent out one had more liquidity. Um, but core systems. What if another organization has the core systems, things like that? Um, well, if, instead of doing this on our own and someone already has done this reaching out to them, or maybe we're both on the same core system, because in a credit union credit union merger, really the biggest cost is a termination of a core system.

David Ritter (20:43):

So if you're both on the same core and I'll, I'll call it one of the, of the top three sort of speak, um, you th the return on investment is huge. So looking at it from that perspective, or just continuing to look at the market space in terms of what's going on in, uh, in the headlines, we constantly see the, the, the need for scale. And we've, we've quantified that as you just ratchet up to the next peer size, not that bigger means better, but if you're looking at, for the fiduciary responsibility for your membership, your stakeholders, your employees, as you grow in terms of asset size, you provide better products, more products and services, better pricing, better fee structure, your employees make more money. So looking at what you know, organizations, um, how they can come together, but also looking at the current headlines of Nim, depressing him, Hey, COVID, we're hoping that, you know, we're seeing this as a trend, people are feeling more confident to get out in the market space. How does this align with our strategies together of maybe more, a digital footprint footprint versus a physical footprint, um, consolidated branches, or looking at new branch profiles. Someone may already be in that area, and maybe our members are growing in there, but we don't have the people that to serve that area and knowing the geographic demographics well, a merger can simply be that you retain people in those areas that they're already there, and we're just better together.

Mike Ensweiler (22:12):

Makes perfect sense to me. So let's, you know, as we kind of wrap this up, what I'd really like to focus on now is, you know, what are some of the best practices in mergers

David Ritter (22:23):

Best practices are always to plan ahead. Don't waste your time by going out to market without understanding what our negotiating points are. Also, I would suggest don't go out and just start saying, you want to merge. You want to merge, you want to merge, uh, you don't want to look like you're trolling. It's gotta be very sensitive because if you start to be the one that says, oh, they're going to, they're talking to me. All they want to do is talk about mergers that can, um, stymie your ability to do these in the future. And, um, other organizations that more relationship building, uh, will become more successful. So th that's kind of at the, at the, at the very beginning, um, but asking the hard questions early, you don't want to waste your time by kicking the can down the road. I'll give a horror story that happened many, many, many, many years ago.

David Ritter (23:18):

I came in just to help to do some post-merger integration on getting some teams together, their ops teams, finance teams, et cetera. They had already spent nine months of putting in their letter of intent together, due diligence, they're finalizing their merger agreement. This is back in the day when they announced things before a merger agreement was done, they would kind of did this backwards. Um, but it was getting mixed signals. Two days into this, I was getting mixed signals between the two CEOs I say, can I look at your merger agreement? And I went directly to the sentence for who the continuing CEO is going to be. It didn't say who the continuing CEO was going to be. So I asked the two, they both raised their hand that they were going to be the continuing CEO guess where that led - then the merger failed, nine months of time, effort and money was wasted because they kick the can down the road and they thought it would solve itself.

David Ritter (24:10):

Don't do that. Don't ever do that. Ask the hard questions early, I'd say in the merger, um, with two credit unions, the letter of intent is probably the most important document asks as many of those detailed questions. As you can headquarters name, core system, board directors, table officers, or executive board CEO. Also, this isn't strategic, but it's tactical is what could an org chart look like? How could us together fill out our org chart with our, all of our people? Um, so those types of things need to be asked early in the process. I would say those, just make sure you go through those and what we're willing to negotiate and ask those early.

Mike Ensweiler (24:51):

Any other closing thoughts, David, as we wrap up?

David Ritter (24:56):

Yeah. Uh, there was a lot of people talking, a lot of organizations that realize that scale means everything. Um, uh, and while the, while we're all performing well is throwing the hat in the ring. Now it does take time. You're not going to do a merger by tomorrow. It does take time. And so if you were looking at a merger now, it's probably, and you started having a dialogue. It's probably going to be all of a year to year and a half, maybe up to two years to come together. It does take time. But if you could double your size in a year to two years, it makes a tremendous amount of sense. So starting to throw these ideas out now are key. Um, and, and just putting your ego to the side are the key things that I would say to start as you, as you go down this, this path, because it's always about our membership.

Mike Ensweiler (25:50):

Awesome. This has been great, David, thanks so much for joining us today and I'll look forward to having you on the podcast again in the future.

David Ritter (25:59):

Thank you, Mike. I appreciate the time

Speaker 3 (26:05):

[inaudible].

Mike Ensweiler (26:06):

I want to thank David again for joining us today and sharing his insights on the current m&a landscape and credit unions, as well as best practice ideas. At the end of each episode, I'd like to take a moment and let you know about some of the additional resources we have available. The registration for the ALM. First financial forum is open and will be alive event in Napa California. Please note that space is very limited. So be sure to register today, David Ritter will be presenting at this event. It'll be a good time to meet him and gain additional insight on the topic. We also have a robust webinars schedule, so be sure to visit our website for more details on these and additional educational offerings, as well as visit our resource center for recorded webinars articles, and a whole lot more as always stay safe, stay healthy. And thank you for listening to in your best interest in ALM first podcast,

Disclosure (27:03):

The content in his podcast is provided for informational purposes and should not be relied upon his recommendations or financial planning advice. We encourage you to seek personalized advice from qualified professionals regarding all investment decisions. Current and future holdings are subject to risks. Past performance is no guarantee of future results should not be copied, distributed, published, or reproduced in whole, or in parts of information presented here in this for discussion and illustrative purposes only, and is not a recommendation or an offer or solicitation to buy or sell any securities. The views and opinions expressed by the alien first financial advisor speakers are their own. As of the date of the recording, any such a user subject to change at any time based upon market or other conditions. And Alun first financial advisers, disclaims any responsibility to update such views. These, you should not be relied on as investment advice because investment decisions are based on numerous factors may not be relied on as an indication of trading intent on behalf of any ALM first financial advisors product, neither ALA first financial advisors, nor the speaker can be held responsible for any director, incidental loss and cured by applying any of the information offered Elm.

Disclosure (27:54):

First financial advisors is an sec registered investment advisor with a missionary duty that requires it to act in the best interest of clients and it's placing interest of clients. However, registration as an investment advisor does not apply to any level of skill or training.