Three years ago Harbor Florida Bankshares Inc. in Fort Pierce was struggling to increase earnings, partly because much of its deposits were in certificates of deposit held by customers who did their day-to-day banking elsewhere.
Michael Brown, the $2.5 billion-asset company's president and chief executive, decided it needed to expand its customer base and lower its cost of funds. It did this by heavily promoting checking accounts and de-emphasizing CDs.
"We had the traditional Florida customer base of retirees, so we were into CDs heavily," Mr. Brown said. "To broaden our customer base to reach middle America, we needed to work on getting more checking accounts."
The change has worked. Since the end of 2001, Harbor Florida's percentage of deposits in checking accounts has more than doubled, to 28% as of the first quarter. CDs, which used to represent 70% of the deposits, now represent less than 50%. The upshot: Harbor Florida's earnings, which were relatively flat during the late 1990s, are now increasing at a rate of 25% a year.
Dozens of community banks are working to replace CDs with core deposits - checking and savings accounts. Between March 31, 2002, and March 31, 2004, the percentage of deposits in CDs fell to 41.86%, from 45.15%, at banks with $100 million to $1 billion of assets, according to the Federal Deposit Insurance Corp. During the same period the percentage of core deposits rose to 38.22%, from 35.53%.
Larger community banks have had a similar drop in CD deposits, but much more of their deposits are now in money market accounts.
Of course, there are other factors contributing to the decline in CDs as a percentage of deposits. Specifically, low interest rates and the fluctuating stock market have prompted customers to keep large sums in transaction accounts, so funds can be moved easily when conditions improve.
Though analysts and consultants say transactional deposits increase a company's value and cross-selling opportunities, they warn that banks should not abandon CDs, particularly with rates climbing.
Community Capital Corp. in Greenwood, S.C., started its core deposit move three years ago, when rates began dropping and CDs started flowing out of the company.
William Stevens, its CEO, said he quickly realized that CD deposits were unstable in the long run, because many people who purchase CDs are "rate shoppers" with no loyalty to the bank.
Since then Community's $500 million-asset CapitalBank has worked to develop a loyal customer base by requiring anyone who wants a CD to also sign up for a checking account.
"We are very focused on relationships," Mr. Stevens said.
Patrick Little, the CEO of Teche Holding Co. in New Iberia, La., said its $536 million-asset Teche Federal Bank is focused on transaction accounts, because customers have allegiance to the bank where they have their checking account and tend to buy more products from it.
"Where a customer has their checking account is what they consider their bank," Mr. Little said. "We used to have customers that just had their mortgage or long-term deposits with us, but they never considered us their bank."
Since Teche began emphasizing transactional accounts in 2000, its percentage of core deposits - including those in money market, savings, and checking accounts - has risen to 50%, from 29%.
In addition to helping to build relationships, checking accounts generate more fee-income opportunities than CDs. Teche's product is called "totally free checking," but the bank makes about $200 per account each year, mainly through overdraft charges and automated teller machine fees.
At Harbor Florida fees on deposit accounts rose from $6.2 million in 2000 to $11.5 million last year. Mr. Brown attributes much of the increase to its shift in focus to more transaction-based deposits.
Analysts said that another reason banks may be emphasizing core deposits is to become more attractive to potential buyers and investors.
Mark Muth, an analyst with First Horizon National Corp.'s FTN Midwest Research in Nashville, said companies with a high level of core deposits are more highly valued than those with more CDs or Federal Home Loan Bank borrowings.
"Banks looking for M&A prospects want someone with strong core funding, because banks purely funded with CDs have no stickiness with customers," Mr. Muth said.
However, Christopher Marinac, an analyst with FIG Partners in Atlanta, said that there is such a thing as having too many core deposits, because they can easily flow into other investments. He criticized banks for not paying more attention to CDs and locking them in before interest rates climb.
"With interest rates rising, I wish we had seen some more CDs book in the first and second quarter," Mr. Marinac said. "While some of it may be market demand, I think much of this is the shortsightedness of many companies."
Robert Kafafian, the president and CEO of Kafafian Group Inc., a Parsippany, N.J., consulting firm, said some banks are countering the expected deposit outflow by offering other options, such as preferred rates on CDs for existing customers and investment services.
"If you have their checking account and they have set up [electronic] bill payment, then you can suck them in so they can't go anywhere," he said.
Many banks are trying to use product or service offerings to make it difficult for customers to get rid of their transaction accounts. For example, Harbor Florida is offering discounted loan rates only to checking account customers.
