As a privately held bank, Lubbock National Bank in Texas has few options for raising capital other than asking local residents to invest. But many people are reluctant to buy shares in privately held banks like the $738 million-asset Lubbock because there is no clear path to cashing out of the investment. Unless the bank goes public or sells itself to another institution-neither of which is an appealing option for many bank boards-an investor looking to liquidate must wait until a willing buyer for the shares emerges. And that's something that can take weeks, months or even years.
"Liquidity is a big concern for investors," says James Arnold, Lubbock's executive vice president for marketing and business development. "The first question they ask when they invest is, 'How do I get my money back?'''
For Lubbock and other privately held community banks, answering that question could soon get a lot easier.
SecondMarket, a New York broker-dealer that makes markets in illiquid shares and alternative investments, is testing out a new trading platform that helps investors in privately held banks find buyers for their stock.
Lubbock was the first bank to participate in SecondMarket's pilot program launched this spring, not because it wanted to be a guinea pig, Arnold says, but because many of the bank's shareholders are aging, and are at or near the point where they need to sell their shares for estate-planning purposes. With SecondMarket's help, Lubbock investors were able to use a recent stock swap to move about 600 shares that they otherwise might have had trouble selling.
"We've had people on the sidelines for years who have wanted to be able to sell their shares and we couldn't accommodate them," Arnold says.
Caryn Feinberg, a senior vice president at SecondMarket, says that usually, investors who are ready to cash out will call executives at the bank and ask if they know of any willing buyers. But executives might not know of any prospective buyers, and even if they do, they can't do much more than supply names, as securities laws bar them from brokering trades. "Investors have to work it out among themselves," Feinberg says. If there's a disagreement on price or any other matter, "the CEO can't really help."
That's where SecondMarket comes in. The 8-year-old firm, whose clients have included Facebook (before it went public) and LinkedIn, will first work with a bank to develop a prospectus that can be shown to potential investors. From there, the firm can help make a market for the shares by providing the bank with a ready-made list of accredited investors and by working with sellers, buyers and third-party appraisers to determine a fair price. As a broker-dealer, SecondMarket also can execute the trades.
Perhaps most appealing to community banks is that SecondMarket gives them wide latitude in determining how to structure their programs. Banks worried about activist investors gaining control can place limits on the number of shares an investor can buy, or prohibit the sale of stock to anyone outside its geographic market. Banks also can set their own guidelines for when and how often shares can be traded.
"We work with the banks to configure the program to their liking," Feinberg says. "One of the joys of being private is you can decide how you want your shares to be traded and who owns them."
At least one other company is offering a service similar to SecondMarket's. A website called communitybanklist.com matches sellers of privately held bank shares with potential buyers, but it is not a broker-dealer so it can't negotiate trades. Its president, Barb Hinkle, says the 3-year-old, subscription-based service has about a dozen community banks and a handful of individual investors as clients. "It's been slow going," Hinkle says, "but for those banks that have figured it out, it has been very successful."
SecondMarket wrapped up its pilot with Lubbock in May and will run similar pilots with a handful of other banks this summer before determining whether to roll out the program nationwide.
Banks interested in working with SecondMarket must be willing to provide at least two years of audited financial results, Feinberg says. They also must have a "growth story" to share, and a relatively clean balance sheet. "We say we don't want banks with a Texas ratio of above 50, but in all honesty we'd like to keep it below 30," Feinberg says.
Banks pay an annual fee for SecondMarket's services, and sellers pay a 3 percent commission on trades, she says. The amount of the fee is still in flux, with a final determination expected after the summer pilots conclude. Lubbock's Arnold, for one, hopes other community banks show enough interest for SecondMarket to take the service nationwide.
He worries that many privately held banks will wind up selling themselves or going public not because they necessarily want to, but because they have no other way to pay off investors. Arnold says a service like the one from SecondMarket could ease that pressure while still providing a vehicle for raising capital.
"For small banks like ours, this could be revolutionary," he says.