More Small Banks Mull Bankruptcy as Part of Survival Plan

The day of reckoning approaches for a large swath of community banks.

Capital problems tied to trust-preferred securities and bailout debts weigh on many community banks, says Evan Tomaskovic, a partner at Carl Marks Advisory Group. He mostly works with banks that have assets between $100 million and $500 million and Tier 1 capital ratios that are hovering above 5%.

But there is hope, he says. There are other banks or investors that are interested in these banks because of their solid deposit and customer bases. Wannabe sellers may improve their odds of attracting buyers by separating banking units from their problematic holding companies in bankruptcy court, he says.

The following is an edited excerpt from a recent interview with Tomaskovic.

What are some of the biggest concerns for chief executives at community banks right now?

TOMASKOVIC: In a lot of the ones we work with, they are juggling. Their capital ratios are deteriorating. They need to work with regulators so that while they are working through whatever turnaround process they are doing, regulators are allowing them to do that in a way that doesn’t affect the bank’s profitability.

The worst thing that can happen for a bank is to get seized by regulators. The second worst thing is for word to get out that the bank is struggling, which can deteriorate its asset base. CEOs spend their nights sleepless, trying to keep the bank as well run as possible with regulators in check and making sure the community understands that despite some troubles it is doing well and should stick with them. It’s a tough battle.

Their board members and management teams are usually entrenched people that have lived in their communities for a long time. While we all love our jobs, when you look at these community bankers they actually care a lot about what is going on in their communities. They want to make sure the community stays intact and a large part of that is keeping the bank healthy so they have a little bit of an extra burden.

Will fatigue eventually lead to some of these executives deciding to sell?

The clients we have dealt with have been really strong. They have a lot of resolve, and they really care. They could have walked away a lot earlier and they decided to stick with it. I would say they will fight in most cases.

What are the biggest challenges for banks with assets of $100 million to $500 million? Are there any advantages?

The advantage is they still likely have an attractive deposit base and they are in an area of the country that they are servicing and not many other banks are. They have good long-standing customers and a solid deposit base. That becomes very attractive to another party to invest to help turn them around.

The disadvantages are because they are small community banks, you really have a limited number of people that would be willing to make an investment in that particular area. That’s simply because smaller banks require the same amount of work as a big bank would to acquire. You have to make sure you find the right parties that understand the markets that you are in.

For banks in this asset category, what is your outlook for merger-and acquisitions activity?

It depends. Many of these community banks issued trust-preferred securities and received capital through the Troubled Asset Relief Program. These were mostly put into place to give them Tier 1 capital. During the financial crisis in 2008, the banks were able to suspend payments on the Trups. That gave them a window of up to five years where they could suspend payments and work through their loss portfolios. A lot of those windows are closing now.