Young Business Banks Feeling Pressure to Merge for Scale and Profits

Capital heavy and finding few lending opportunities, a growing number of young business banks are opting to sell out for greater scale.

Many of those banks opened right before the 2008 financial crisis. They managed to avoid making the riskiest loans, thus dodging huge writedowns and leaving high capital levels. Now good business loans are hard to find, creating a spike in mergers.

Since the banks are tiny, so are many of the deals. Still, these types of deals garner attention at a time when banking consolidation overall remains subdued.

"Like a lot of de novos, it's a tough environment," Charles Hall, the president and chief executive of AltaPacific Bancorp, said in an interview Thursday. Given regulatory and economic pressure, "it's hard for them to grow to a point where they're consistently making money."

Last week the Santa Rosa, Calif., company said it had signed a $17.4 million deal to buy Stellar Business Bank that would create a banking company with four branches and assets of $190 million.

AltaPacific, which is five years old, realized the difficulty of sustainable profits shortly after the financial crisis. The fledgling company took three years — looking at more than 100 other banks — before finding the right partner.

At June 30, AltaPacific's equity capital was $27 million, 4.4% more than a year earlier. But its net income was just $181,000, down 120% year over year.

Stellar Business Bank, formed a year after AltaPacific, is also exceedingly well capitalized even though it has not been consistently profitable. (The Covina, Calif., bank reported a second-quarter loss of $278,000.)

"We kissed so many frogs in the last three years," said Timothy Walbridge, Stellar Business Bank's president and chief executive.

Formed in April 2007, the bank "had not intended on a merger but we didn't know the economy was going to tank on all of us," Walbridge added. "Bigger is better in this day and age from an earnings standpoint and from a capital standpoint."

At midyear Stellar's total risk-based capital ratio was 31.4%, while AltaPacific's was 37.9%.

Observers say it is the CEOs of well-capitalized banks such as Stellar Business Bank — who ??? once considered themselves buyers — who are coming quicker to the table as sellers.

"It's just difficult to find new earning assets … so you will see more and more" combinations of small, healthy banks, said Mary Lynn Lenz, the president of Professional Business Bank in Pasadena, Calif., which was sold in December to California General Bank.

"If you just look at the personnel costs for overhead, it becomes daunting when there's a compressed interest rate environment," Lenz said. "The demand for loans is not what it was five years ago and the competition is fierce."

Scale also played a role in First PacTrust Bancorp's $37.4 million deal to buy Beach Business Bank in Manhattan Beach, Calif. The $304 million-asset Beach Business Bank was eager to become a consolidator. But executives said in a conference call in August announcing the deal that they realized a merger could produce more earnings potential.

At AltaPacific, Hall said he wants to pursue a growth strategy similar to Business Bank of California, where he was CEO before selling to the much larger UnionBanCal Corp. in 2004.

Following the sale, "it was a traumatic event after working 12-plus years for a small independent bank," Hall said. "I took six months off . . . but it didn't take very long before my wife told me the house wasn't big enough for the two of us."

In July 2006 Hall and a group of directors, including four from his previous bank, started AltaPacific with $27.5 million in capital. AltaPacific avoided the housing market and became profitable in its third year. With so much liquidity and capital in the midst of a recession, the bank switched its focus in 2008 to pursue acquisitions. Since then, "we've been looking pretty much nonstop," he said.

"Unfortunately, a lot of the banks were too problematic for us," Hall added. "We didn't want to take on something that we would have to work out for the next three years."

Hall said management considered failed-bank deals, but AltaPacific is so small size that it "wouldn't qualify for anything of significance."

The bank is still trying to grow internally; it opened its second branch in May. Hall said it takes longer for branches to become profitable, though he expects Stellar Business Bank to add to earnings immediately (the deal is slated to close later this year).

Hall wants to reach the $1 billion mark in assets slows, requiring a tenfold increase from the bank's size ??? after completing its first acquisition ???. Hall said he hopes that this deal will draw the attention of other sellers.

Asked how long he would be willing to wait before chasing the next deal, Hall joked that he would settle for a day or two. "I'd feel very fortunate to just maybe do one deal a year," he said.

"It may be too conservative, but we're not going to be cowboys," Hall said. "Getting through process requires such a long lead time, and we have a bunch of irons in the fire that we will have to rekindle."