First of America's Smith Faces Wall Street Skeptics

KALAMAZOO, Mich. - Daniel R. Smith is losing his patience with Wall Street.

When he was named chairman and chief executive of First of America Corp. seven years ago, analysts criticized the company for its lethargic growth.

Mr. Smith has since carried out one of the most aggressive banking expansions in the country, quadrupling First of America's assets to $19 billion in just five years. But now analysts are sniping that he paid too much for some of his deals. "It's frustrating," quips the 57-year-old executive. "I'm not sure analysts can tell a well-run bank from a poorly run bank."

There is certainly no disputing that First of America is a well-run bank. Its profitability and credit quality are the envy of its peers, and Mr. Smith is widely regarded as one of the country's most savvy bankers.

But the company jolted its stockholders in September with the announcement that it had won a bidding war to acquire Security Bancorp Inc., a lucrative consumer franchise based in Southgate, Mich., serving a string of blue-collar communities in suburban Detroit.

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The purchase price was equal to almost three times Security's book value - about 50% higher than average for acquisitions of similar size. That raised fears that the initial reduction in earnings per share would be comparatively high. And Wall Street was still skittish about First of America's announcement a month earlier that it had agreed to acquire Champion Federal, a $2.3 billion asset thrift in central Illinois, for about $100 million.

After the Security announcement, First of America's stock price fell by about 15%, although about half the loss has since been regained. The company's stock Monday afternoon was trading at $28.625, about $3 below its 52-week high.

It's going to take Dan Smith and his team quite a while "to prove to the investment community that the price [for Security] was truly appropriate," says William W. McGinnis Jr., vice president at Chicago Corp.

Justification for Price

Mr. Smith says Security's purchase price is justified because the company's $570 million credit portfolio will make First of America one of the top 50 credit card issuers in the country, with more than $700 million in outstandings.

As for Champion, Mr. Smith says the high degree of overlap between First of America's Illinois bank branches and Champion's offices will provide plenty of opportunities for consolidation and operating efficiencies.

Still, First of America's five-year acquisition binge has kept operating expenses high and has resulted in a modest 4% annual return on its stock. Mr. Smith says he is committed to doing better.

"I want everyone to think of First of America as a high-performance company," says Mr. Smith. "We're not quite there yet."

One of a New Breed

First of America is part of a tough new breed of "super community" banking companies outperforming their larger brethren.

Their strategy is to assemble a chain of community banks, achieve cost efficiencies by consolidating back office operations, but make lending and other operating decisions at the local level.

When the acquisitions of Security Bancorp, which has $2.8 billion in assets, and Champion Federal are completed next year, First of America will rank as the nation's 19th-largest banking company in terms of assets.

The company has pointedly avoided big cities, instead concentrating on suburban and rural areas where it adheres largely to consumer loans.

Despite the dramatic growth, executives at the Kalamazoo-based company still cling to the conservatism of their hometown in central Michigan.

First of America's headquarters is a renovated YWCA building in the heart of the city. An old furniture store is being converted to house administrative staff.

Mr. Smith and his deputies shun many of the trappings common to executives at banking companies of similar size. A company plane is used only for trips to towns not served by commercial airlines.

Mr. Smith shuns a company limousine, preferring to tool around town in his 1989 Olds-mobile.

"The only person who drives a limousine in Kalamazoo is the undertaker," Mr. Smith once remarked in a speech.

But behind this veneer of folksy charm is a crew of tough businessmen.

Conservative lending policies are de rigueur at First of America banks. Bankers who don't adhere to this approach quickly find themselves cast out. Mr. Smith recalls an acquisition in Illinois where "a medium-size bank in a big city was acting like a big bank."

"It took a lot of time, but [the bank's management] finally had to go," said Mr. Smith.

Such oustings are the exception to the rule, he says. Most of the time, First of America keeps local management intact. Mr. Smith believes that local managers are in the best position to make lending and operating decisions because they know their communities and their markets.

A "buddy" system, whereby a neighboring acquired bank is assigned to a newly acquired bank, guides new members into the First of America fold.

Strict on Guidelines

Lending guidelines established by the parent company must be adhered to. For example, though the company's legal lending limit is $300 million, First of America institutions are not allowed to make loans over $20 million, except under certain conditions. The bank has made only three loans over $20 million, but Mr. Smith declines to identify the borrowers.

"We tell our lending officers to stay at home," said Mervin D. Burtis, a senior vice president who oversees the company's credit policy.

The results speak for themselves. First of America's ratio of nonperforming assets to loans was just 1.31% at Sept. 30, and its net chargeoff rate this year is less than half a percent.

Though the holding company has weathered the milder Midwest recession better than some superregionals that got into highly leveraged transactions and developing-country debt, the acquisition binge and the sagging economy have stalled internal loan growth.

In the first nine months of the year, loan growth excluding acquisitions this year was up 3.52%, compared to 6.39% last year and 8.28% in 1989. The bank expects loans to grow only 5 to 7% in the next few years.

Pushing Productivity

As a result, First of America is taking several steps to improve productivity, raise fee income, and garner market share. The company has invested several million dollars over the last few years in a quality service program designed to improve customer service and promote a sales culture.

Marketing manager Bruce McCall says the number of customers leaving branches with more than one product is now above 40%, compared to 28% two years ago.

A new sales tracking system delivers a single sheet to Mr. Smith each month showing sales by product category. Mr. Smith recently began "The Chairman's Challenge," an incentive program designed to keep salespeople knocking on doors.

The bank that books the most sales calls for a three-month period is given an award. If another bank wins the next time around, the president of the losing bank must travel - at his or her expense - and present the award to the winning bank's president.

"If you're in Decatur (Ill.), you're not looking forward to driving to the Upper Peninsula - especially the way it snows up there in the winter," says Mr. Smith.

The bank has built a $2.75 billion mutual fund program, holding fifth place among U.S. banks in assets under management. Fee income from its trust business and other services is expected to hit $60 million this year.

John B. Rapp, executive vice president in charge of the division, hopes to double the group's revenues over the next year or so by cross-training sales staff, and decentralizing the sales force.

First of America has spent over $40 million during the past three years to consolidate multiple data centers at a single site outside Kalamazoo and create a common set of software systems that can be used at all its subsidiary banks. This will help the banks offer a uniform set of products and eventually reduce operating costs.

Except for Champion and Security, all banks will be on the system within five months.

Mr. Smith expects that it will take a year to merge Champion into First of America and almost three years to integrate Security.

No Big Deals Expected

The company is not planning any major acquisitions for the next several years.

First of America, of course, is not too big to be acquired itself.

"We've had interest from suitors but not offers," Mr. Smith says. Although the company prefers to remain independent, "If something came up that would benefit our shareholders, we'd have to look at it."

PHOTO : THINKING SMALL: Under Dan Smith, First of America has grown by avoiding big cities. Kalamazoo, Mich., headquarters was a YWCA.

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