The bullets are in the chamber, and the guns are pointed at the ledgers of certain community banks. The triggermen are activist investors demanding the banks create value — now — or find partners that can.
For many banks with less than $500 million of assets, "the overhead of operating as an independent bank is too daunting," says Douglas Schaller, a general partner at Schaller Equity Partners.
"The regulatory costs are eating into earnings … and there is no way to generate good returns for shareholders as a standalone."
Schaller has joined the ranks of activists such as Richard Lashley at PL Capital Group and Larry Seidman. Each has become more vocal while slowly boosting their stakes in select banks and thrifts.
Many investors believe now is the time for banks with capital to expand due to regulatory costs and low valuations, despite lack of loan growth, especially at just-converted thrifts and mutuals.
"The number of [activist] filings have picked up due to the … flurry of second-step and MHC conversions," says Lashley. Activists prefer thrifts that have converted because "typically, the valuations are attractive and there's also a lot of volume that typically occurs right when conversion happens."
PL Capital has been most active with former mutuals such as Alliance Bancorp Inc. in Pennsylvania; Polonia Bancorp Inc. in Huntington Valley, Pa.; and Magyar Bancorp Inc. in New Jersey. Lashley has become active in 10 out of his 12 largest bank investments. (PL Capital has shares in roughly 40 banks and thrifts.)
Likewise, activist heavyweight Joseph Stilwell has increased his stake and voice at several thrifts.
"The prices for these thrifts are good, the market has come down significantly … and they provide a good margin of safety," says Spencer Schneider, Stilwell's general counsel. "The second thing is, these are survivors. They may have warts but they have generally survived the market crash … and they have a future."
Since last September, Stilwell has filed 12 new reportable "active" positions in financial institutions. In recent weeks, he increased his holdings in Jacksonville Bancorp Inc. in Illinois and Naugatuck Valley Financial Corp. in Connecticut.
Schneider says that Stilwell's strategy is not about trying to obtain a board seat. Rather, Stilwell's objective is "to make sure that these banks operate at a profit and stay on the straight and narrow, and don't get fancy."
Schaller seems to be taking the same tact at Cardinal Bankshares Corp. in Floyd, Va., where he is the biggest outside investor. In June, he demanded that the company sell its Bank of Floyd after Henry Logue, Cardinal's president and CEO, abruptly resigned. Schaller, a 30-year bank investor, said he began investing in Cardinal late last year because he believed Logue would set the well-capitalized company on a path for growth. With Logue gone, Schaller is clamoring for change.
"If a third of your income is going to regulatory compliance costs [like with Cardinal], how can you generate a return for shareholders? It can't be done," Schaller says. "So you either have to grow or merge with another bank."
Cardinal's management could not be reached for comment but Leon Moore, the company's current chairman, president and CEO, has publicly said he would not consider selling.
"The activists that generated the greatest returns over the last five years were those that demanded the company explore strategic alternatives," such as a sale, says Damien Park, a managing partner at Hedge Fund Solutions LLC. Weak acquisition activity in recent few years halted activism, he said. As consolidation returns "we've seen a lot more [investor] activity and lot more companies exploring their options," Park says.
Investors wanting banks to get "back to the basics" have been another major catalyst for recent activism. Investors like Schaller say this is why they invested in the first place, it's what consumers need the most now and yet, it's where the greatest void lies among banks.
"Retail banking is like the fast food industry 10 to 15 years ago, when all fast food was horrible and then we had the evolution of Chipotle. … They don't have customers, they have fans," Schaller says. "Nobody loves the taste of banks now … but there is a huge opportunity to create customer-friendly growing banks out of community banks."
