Sandler's Dunne: Scale Matters Now More than Ever

As a head of one of the busiest bank advisory firms in the country, Jimmy Dunne might have one of the best vantage points to assay the industry.

Dunne, a senior managing principal at Sandler O'Neill & Partners, rebuilt the New York company after it lost 66 of its 171 employees in the Sept. 11 terrorist attack on the World Trade Center. He has since scaled back his involvement in the firm's day-to-day management to focus on dealing with clients, including advising Banner Corp. in its recent mega-deal to buy AmericanWest Bank.

Dunne, in a wide-ranging interview with American Banker, offered insight into that transaction, along with his view of scale and thoughts on how Sandler O'Neill will evolve with the banking industry. The following is an edited transcript.

You represented Banner in its planned acquisition of AmericanWest, which will take it to just shy of $10 billion. What kind of insight can you shed on that deal?

JIMMY DUNNE: If you're $500 million in assets, you need to figure out a way to get to $2 billion to $3 billion if you really want to survive. If you're $2 billion to $3 billion, you want to figure out how to get to $7 billion to $9.5 billion.

Banner would have been the acquirer of choice for a lot of smaller deals in the Pacific Northwest. But with the AmericanWest deal, the Banner management team has the opportunity to take two banks under $5 billion and create a company with a terrific map up and down the West Coast to be just under $10 billion. It is a terrific deal for the AmericanWest investors. They were able to attach themselves to a real earnings machine and into a currency that should be treated very favorably given the map, the management team and the earnings capability. The market is rewarding size appropriately, because it is very difficult to be a small institution and really show a route to double-digit returns.

What fuels the view that an institution's right size is at least twice what it is now?

We used to say and think that size was really important. In reality, it wasn't. There was no great advantage to size. There was some, but there were also advantages to being small. Now, given the regulatory environment, the costs, the BSA issues, the overall competitiveness of loan prices and deposit gathering, there is a real advantage to size.

Banks can survive for a long period of time being very, very small, especially if they are private. But if you want the cold New York investment dollars, you'll have to demonstrate a real logical path to a double-digit return.

So the current environment put the real importance of scale into perspective?

I think for the longest time, everyone operated under the premise that bigger was powerful and better. We all understood that, but it turned out not to be true because there were big financial services institutions that are not around anymore. But now, it is correct. Given the cost of regulation, it is much harder to compete.

Will that still be the case when rates rise and the operating environment improves?

Yes, it will still be true. It is just much easier for a larger company to deal with the regulatory costs. It is very expensive and time consuming for a small company.

If banks need to be bigger, what does that mean for Sandler, whose reputation involves serving banks with less than $5 billion in assets?

When we first started, our competitors would say with the back of their hand, well, they are really focused on the smaller stuff. Candidly, after 9/11, we got involved in some very large stuff. The truth is we're focused on financial services institutions. We've done deals of all sizes, but our firm has one focus. We have a history of getting to know a company when they are smaller and, as they grow over a decade, we end up knowing them still as a larger company. It's about relationships.

You represented Old Florida in its sale to Iberiabank, a deal priced at 185% of the seller's tangible book value. That kind of price in Florida a few years ago would have been unthinkable.

You have an incredibly efficient, well-run bank in a good area in a good state with Old Florida. Perhaps the better question is why are there no in-state acquirers in Florida? If you look at Iberia, you have a company that acted during the crisis and got much larger prudently. They're able now to spend their currency on really well-run companies at a price that is, in my opinion, very reasonable.

What's more important, Old Florida exchanged into a currency that is going to be powerful going forward.

I'm not surprised that we're seeing pricing closer to two times tangible book. We represented Comerica when it bought Sterling in 2011. That deal was priced at 2.3 or so. It was viewed as a high price and the market didn't like it. Now, would you say that sounds like a big price now when you're getting $10 billion in assets in arguably the best state in arguably the best city to do business in?

You run the company for the shareholders who are going to be there tomorrow, not the ones who were there yesterday or are going to leave tomorrow.

The IPO market seemed busy in 2014. Did higher takeout premiums in M&A mute activity?

In February, March and early April of last year, IPO pricing had exceeded M&A. We've seen a couple of things that we've never seen before, like buyers' stocks trading up after a deal is announced. We've seen a large pool of investment managers asking about who are the best acquirers. It is a sea change — investors are looking to add to good positions, rather than just looking for a takeout.

The IPO market came more in line after that. Now it is less than what a takeout price would be. I think there are companies like AmericanWest or Old Florida that are sitting down and looking at where the market will be in a year and what the valuation in an IPO would be, then thinking that once they have get a currency, they'll have to go out and compete for deals. That can be positive or negative, depending on the wealth of targets, the will of the board, the make-up of the shareholders and the value of the currency.

That last one is probably the most important.

They're all important. If you don't have a board and a shareholder base that can understand what it takes to take a company from $1 billion to $10 billion through acquisitions, you're not going to get it done. To your point, if you're trading at book, you're not going to get it done either. So for companies like AmericanWest or Old Florida, they did go public. They went public into another currency. They are much further along than they would have been independently.

You've been adamant about not wanting to take Sandler public.

I have absolutely no desire to go public. None. We're doing a pretty good job and work hard to put the client in the middle of what we do. Nothing about going public would enhance that. That's the number one reason why we don't. Most companies go public for a reason, like wanting a currency to do acquisitions.

I don't want to spend 20 days a year talking to analysts about what we're doing. I want to spend those days talking to our clients about how we can help them make money.

Are Carlyle Group and Kelso & Co., the private equity firms that invested in you a few years ago, fine with that stance?

Kelso and Carlyle are great firms. I don't spend any time worrying about their investment decisions because they've done really well with the dividend that they receive each year. They knew what they were getting. They understood the management team.

I gave you my view of going public, but that's just one man's view. Sandler can go public and might go public, I just don't want to be the CEO of that entity.

So, how much longer do you want to work?

What I'm doing now, more than ever, is completely client- and deal-related. Jon Doyle is doing many, many of the things that I used to do in terms of managing the businesses.

I couldn't be happier. After 9/11, I used to say five years anytime someone asked me how much more I wanted to work. I don't know why I'd stop working. As long as I'm active and people want me to come to their board meetings, I'll be available.

In the case of BB&T buying Susquehanna, BB&T CEO Kelly King said a contiguous deal was his second preference. Could one interpret that as the regulatory environment loosening for deals or multiple deals?

I think there's been too much made about what he said. BB&T is a great company with the opportunity to go at it a lot of directions. King wants more in Texas, he's getting into the Midwest, he is in the Southeast. He's a good enough banker who made it through the crisis and now has a lot of options and he is exercising them. That's that.

What do you think of banks backed by private equity that have been unable to deploy capital? Will some sell?

They'll continue to do buybacks, maybe increase their dividends. Some will absolutely, potentially sell.

You can go a long time and do nothing. If you can grow 2% to 4% and have capital management techniques that add up to 2% to 4%, you're doing better than money market rates. There might not be a need for anything to happen quickly, but clearly the plan of raising a lot of capital, buy a lot of banks for less than 30% of tangible book and sell it for two-times has been a much more difficult process than imagined originally.

What's the talent environment like for you and your competitors?

We're as diversified and have as much talent as we did pre 9/11. We've hired some terrific people. The departures haven't hurt much at all, honestly. We have a 5% to 10% movement each year. In this business, you're either getting better or you're getting worse. You're never simply as good. We're sensitive to that. A good flow, perhaps higher than people would think, is healthy to us. We had a good year.