Slash and merge
The latest U.S. bank deal is signaling the next phase of M&A for the industry. The $187 billion BB&T is starting small, paying $2.5 billion for Susquehanna Bancshares, a minnow with just one-tenth as big a balance sheet. But the dynamics of the sector make it the kind of tie-up that looks set to proliferate.
Regulatory pressure has made sizable deals risky for regional banks like BB&T. That’s because any lender with $250 billion or more in assets joins the upper tier of systemically important financial institutions. U.S. watchdogs don’t explicitly ban mergers above that threshold, but in an October 2012 speech Federal Reserve Governor Daniel Tarullo said buyers could expect a “significant presumption against acquisitions.” Subsuming Susquehanna will take North Carolina-based BB&T’s balance sheet up to some $205 billion.
Meanwhile, growth is proving elusive for a lot of America’s lenders. Susquehanna’s loan portfolio has shrunk over the past couple of years, for example. And the Pennsylvania lender depends on net interest income for three-quarters of its revenue.
That leaves it heavily at the mercy of the Fed’s interest-rate policy. The bank’s return on equity was just 6.6 percent last year and is expected to hover around 5 percent for some time, according to Thomson Reuters data. That’s well below the cost of capital. BB&T is doing better but is still subpar with a 9 percent RoE expected this year.
In such an environment, cutting costs is a big reason for making deals. BB&T Chief Executive Kelly King reckons he can slash 32 percent of Susquehanna’s non-interest expenses. That’s aggressive considering there’s not that much overlap. The $160 million of annual savings are worth some $1 billion on a post-tax present value basis. That covers the $700 million premium on offer to Susquehanna’s owners, even if it doesn’t leave a whole lot of buffer for BB&T’s shareholders.
There’s another wrinkle. At 1.69 times Susquehanna’s tangible book value, BB&T is paying less than the 1.94 multiple its stock enjoys. It’s a more efficient way to use the 30 percent cash in the deal than buying back its own shares. Blockbuster bank mergers may be a thing of the past. But there’s enough juice in smaller deals for others to follow suit.