The de novo boom is just getting started
Business leaders in Monroe, N.C., have missed having a local bank.
Monroe, about 25 miles southeast of Charlotte, lost its last community bank when Yadkin Financial bought American Community Bancshares in 2009. A dozen business leaders now want to form what could be the state’s first de novo bank in nine years.
Monroe’s story is becoming a familiar one as entrepreneurial bankers step off the sidelines. Eight applications were pending as of April 30, according to the Federal Deposit Insurance Corp.
The right ingredients are in place for even more de novos, industry observers said. While a friendlier regulatory environment, stronger economy and industry consolidation have been cited in recent years as catalysts, the list is growing. Tax reform and the need for new, tech-savvy banks to compete with fintechs are now playing big roles.
Momentum also helps. Five newly chartered banks debuted last year, a significant increase from the two that opened between 2011 and 2016, according to the FDIC. Three new banks have opened this year so far, and two other applications have been approved since December.
"Seeing others being able to go down the path and get their banks launched will attract others to do the same,” said David Freeman, who oversees Arnold & Porter’s financial services practice. Hurdles after the financial crisis "discouraged a lot of potential people looking to start or invest in a bank."
While organizers’ motives vary, there are a few common themes, including a desire to bring community banking to markets where consolidation had erased local banks, a goal of serving a niche audience or an interest in bringing an innovative spin on lending in more crowded markets.
North Carolina, which has lost half of its banks since 2010, has five groups discussing plans for new banks, said Ray Grace, the state's banking commissioner. Grace said he has one application in hand and that he expects at least three others this year. Other states with pending de novo applications include Nevada, Michigan, Florida, Massachusetts, New York and Tennessee.
Individual investors are looking for places to deploy capital, said Bob Wray, managing director of Capital Corp. Banks offer a fairly stable investment opportunity compared with investing in technology startups, he said.
“Most [new banks] are successful if they're run well," Wray said. "Even if the economy takes a downturn, the investment overall is probably safer in bank investments than other fields that might have wider swings.”
Most industry watchers point to changes inside the industry’s regulatory environment as one of the main reasons for an uptick in new bank activity. Stringent regulations on small banks are subsiding, and new leadership at regulatory agencies has encouraged more leeway.
“From a bank regulatory perspective, the environment for de novo charters is the best it’s been in decades,” Freeman said.
While few rules have actually changed, regulators have largely amended their approaches and attitudes towards young banks in order to spur economic growth, Freeman said, adding that he expects interest in de novos to persist.
Tax reform could also provide potential organizers with more confidence.
Although new banks typically operate at a loss for the first year or two, lower taxes speed up the path to profitability, said Tony Plath, a finance professor at the University of North Carolina at Charlotte.
Lower marginal rates also create smaller personal tax payments, making more money available for investment, Plath said. Higher after-tax returns on equity investments from capital gains could also make investors more willing to bear the risks associated with new banks.
“Tax reform helps create the sort of economic environment and investor climate that favors the creation of more startup banks, especially in states that are healthy, growing and business-friendly,” Plath said.
A lower corporate tax rate is one of a handful of primary drivers, including consolidation and an improved economy, behind the increase in de novo applications, said Greyson Tuck, an investment banking adviser at Gerrish Smith Tuck.
“You’re able to hit your targets a little easier because you don’t have the same tax expense that you once had,” Tuck said.
Also spurring local business leaders to start new banks is the need for innovation among community banks, industry observers said. The quiet, cautious community banking model is being challenged by customer desire for technology and innovation. De novos have an advantage of starting with new platforms rather than the clunky legacy systems that remain at older banks.
“Ten years from now, banks are going to look and act very different than they do today,” Tuck said. “Through a de novo, you don’t have all the legacy issues or inertia that you may have in an existing organization.”
While new banks have a competitive advantage over institutions with dated systems, Charles Vice, Kentucky’s banking commissioner, said de novos need to strike a balance between technology and personal service. He would also like to see more upstart banks focused on niche audiences. Kentucky has no pending applications at this time.
Organizers of Green Apple Bank & Trust, a de novo planned in Springfield, Mass., say that technology would be pivotal to its business model.
"Technology has really changed the game in the last few years, and the idea of starting with brand-new technology is really exciting," Jeffrey Sullivan, who would be Green Apple’s CEO, said in a recent interview.
Grace added that he is optimistic that bankers can find the right blend of service and innovation.
“What I’m telling our proposed new-bank organizers, as well as managers and directors of existing banks, is that you can’t continue to do business the way you’ve always done it,” Grace said. “That’s going to be a recipe for irrelevance and failure.”