MidWestOne to Press M&A Advantage in Minnesota

MidWestOne Financial is confident it can find sellers in Minnesota — the Land of 10,000 Lakes and nearly 350 small, independent banks.

The Iowa City, Iowa, company found itself in neighboring Minnesota after failing to find any willing buyers in its home state. Instead, MidWestOne ended up buying Central Bancshares in Golden Valley, Minn., in a deal that closed last week.

The Central deal is transformational for MidWestOne, boosting its assets nearly two-thirds, to $3 billion. Management is planning a deliberately slow integration as it looks to let its culture permeate Central, which bulked up on failed banks during the downturn.

When MidWestOne returns to the M&A hunt — perhaps a year or so from now — it will be in a bit of a sweet spot as a buyer that offer smaller bank sellers the upside potential of a publicly traded stock, said Charlie Funk, the company's chief executive.

"It is a real advantage to be able to offer equity," Funk said in an interview. "Most of the buyers in the market are cash buyers."

Minnesota is a peculiar banking market, where U.S. Bancorp and Wells Fargo hold three-fourths of the state's deposits. Those banks have no interest buying smaller banks, deal advisers said.

"Banks like Wells Fargo bought up community banks for years and years," said Craig Mueller, co-head and managing director of the financial institutions group at Oak Ridge Financial in Golden Valley, Minn. "If they want to do something now, it is going to be a lot bigger."

Other larger banks in the state include TCF Financial, BMO Harris Bank and Associated Banc-Corp. Given their sizes, those banks may also be disinclined to pursue most of Minnesota banks, which, on average, have $203 million in assets.

"It's the land of independently owned banks," Mueller said. Data from the Federal Deposit Insurance Corp. show 336 banks based there, along with nearly 65 out-of-state competitors.

Large, locally based and privately held banks also include Bremer Bank, KleinBank and Anchor Bank. Funk's equity advantage could be most pronounced compared to such institutions; sellers have a preference for equity because it gives them a chance to make more on the sale of their bank over time, given current deal pricing. Certain tax benefits also exist for those who opt to take stock.

Funk's view of his company's opportunity is "probably correct," Mueller said. MidWestOne is positioning itself as "a unique acquirer in the Twin Cities and Minnesota overall. Community banks haven't really had a stock option in some time."

Mueller, who has recently been involved in three cash transactions in Minnesota, said an equity offer could have been a good option in one of those deals.

MidWestOne, however, could end up competing with other out-of-state buyers with public currencies, said Rick Foggia, a managing director in the financial institutions group at Commerce Street Capital. "They'll be positioned well for sure, but they are not the only one," he said.

Heartland Financial in Dubuque, Iowa, could be a potential suitor for Minnesota banks. The company, which owns the $167 million-asset Minnesota Bank & Trust, has said it wants each of its banks to have about $1 billion in assets. Another bank that could have an interest in Minnesota deals is Great Southern Bancorp in Springfield, Mo., which bought a failed Minnesota bank in 2012.

Potential interest in M&A by those companies hasn't materialized into deals, noted Foggia, who lives in Minnesota. "If you look at some of these, they've been here for a little while, but haven't done anything," he said.

As Funk warned, it may be a while before MidWestOne looks to buy again. Besides integrating Central, the company wants to rebuild its tangible common equity ratio. The company sought an acquisition to lower the ratio, which exceeded 10% prior to the Central closing. That deal lowered the ratio to about 7.5% to 7.7%, Funk said. Management's goal is a range of 8% to 8.5%.

The Central deal is expected to be accretive to MidWestOne's 2015 earnings and at least 20% accretive to earnings in 2016, when the company is expected to merge its two banks under one charter, Andrew Liesch, an analyst at Sandler O'Neill, wrote in a recent research note. MidWestOne's projections of cutting 22% of Central's expenses are expected to be achieved mostly at that time.

"We were looking to grow by acquisition because we were accumulating capital faster than we could deploy it," Funk said. "And we were unsuccessful in acquiring a company in our footprint that met our strategic goals."