The very assets that pushed ailing banks into failure are providing a nice boost to their buyers — at least temporarily.
About 32%, or 47, of the 146 banks that acquired a failed bank from Jan. 1, 2009, through Aug. 19 of this year have recorded a net bargain-purchase gain from the failed bank's assets, according to data compiled by Foresight Analytics.
Analysts said the one-time gains are a welcome surprise.
They "came at a very important time, when banks are doing everything they can to post positive earnings or boost capital," said Matt Anderson, a managing director at Foresight Analytics. "For some of these banks, it turned negative earnings into a positive."
Yet as with anything tied to accounting at market value, the bargain purchases can fluctuate from one quarter to another.
Most of the banks reported multimillion-dollar gains. These gains did not attract attention until the fourth quarter of 2009, when the Federal Deposit Insurance Corp. created a field for them on bank call reports. Also, an accounting rule took effect in 2009 that changed the way companies report deals, with a greater focus on valuations.
The purchase gains made up a sizable portion of the 2010 net income reported by the banks that had them: 34% in the second quarter and 64% in the first quarter. This is likely to continue as banks work through problem loans from the failures, getting spurts of bargain-purchase gains under the assumption that the fair market value of the failed bank's assets rose. Longer-term gains can be realized as the company collects on the failed bank's loans.
"There's going to be accretion into earnings at some point in the future," said Chris Marinac, an analyst at FIG Partners LLC. "That's where the rubber meets the road."
The banks with the largest cumulative bargain-purchase gains acquired failed banks in middle to late 2009, when bidding on such deals was not as competitive as today and prices were lower. It also was when the number of bank failures picked up nationwide.
For example, First Financial Bank in Hamilton, Ohio, which bought two failed banks in Indiana and Kentucky in September 2009, recorded a huge bargain-purchase gain of $379.1 million in late 2009. It was the second-largest cumulative gain, behind that of East West Bank in Pasadena, Calif. Another big winner was United Central Bank in Garland, Texas, which had a $271.4 million gain after buying Mutual Bank in Harvey, Ill., in July 2009.
The gains can shift, sometimes to losses, because setting a market value is subjective. Also, the quality of loans in the failed bank's portfolio can determine why some banks recognized a bargain-purchase gain or loss, or none at all. Banks have up to a year to record a change from when the acquisition occurred. "We call it hocus pocus because there is a certain way to be aggressive or conservative and then there's a lot in between," Marinac said.
East West Bank recorded the largest cumulative purchase gain in this period as a result of swallowing a large competitor, United Commercial Bank in San Francisco, at a bargain-basement price in November 2009. East West could bid low because there were not many rivals for the Chinese-American bank, said Julia Gouw, East West's president and chief operating officer. On the spread between the asset size and the low price, the bank had a $471 million bargain-purchase gain immediately after valuing the assets.
East West slightly boosted its cumulative gains, to $490.5 million, after buying the failed Washington First International Bank in Seattle in June. These gains contributed to a 46% jump in second-quarter earnings, to $36.3 million, from the previous quarter. It also boosted capital ratios, which "will eventually allow us to grow the balance sheet," Gouw said.
Taking bargain gains out of the equation, a failed-bank buyer's bottom line is often not immediately improved by an FDIC-assisted purchase, analysts said.
"The jury is still out on most of them," said Joseph Fenech, managing director at Sandler O'Neill & Partners LP. "A lot of these failed banks are loaded up with construction loans, and not high-quality loans," so management must work through what's left behind. Even with the FDIC covering most loan losses in many loss-sharing agreements, banks find it can be costly and time-consuming to work through the credits.
FDIC-assisted deals "are more work than a typical acquisition," said Brett Rabatin, an analyst at Sterne, Agee & Leech Inc. "The expense savings [are] a little slower, and the [acquiring] bank has a lot of work to do."
Hancock Holding Co. in Gulfport, Miss., is well aware of such costs. It posted a pretax, one-time expense of $1.7 million in the second quarter after its subsidiary, Hancock Bank, bought Peoples First Community Bank in Panama City, Fla., in late 2009.
Carl Chaney, the president and chief executive, said in a written response that the FDIC-assisted deal was expensive because Hancock had to establish a loss-share division to deal with problem assets. The one-time merger cost, plus a big jump in its provision for loan losses because of exposure to the Gulf oil spill, drove Hancock's second-quarter earnings down 52.6%, to $6.5 million, from a year earlier.
Still, Chaney would do more deals.
"Because of the financial structuring of our particular transaction, it has been accretive to our bottom line, and we look forward to more deals in the future," he said.