In some ways, the forecast represents a return to normalcy in merger and acquisition activity after five years in which bank regulators paired hundreds of distressed financial institutions with healthy ones. Bank values are rebounding, too, as the sector emerges from one of the most troubled periods in its history.
However, the expected increase in traditional merger activity also is being driven by a singular event. Small community banks are bowing under the weight of a raft of new regulations inspired largely by misconduct at larger institutions. The cost of compliance is expected to spur consolidation activity among them.
"We're expecting a more robust M&A environment because the haves and have-nots have been decided," said Eric Lohmeier, managing director of Des Moines-based NCP Inc., an investment banking boutique that specializes in mergers and acquisitions.
NCP's 2013 merger and acquisition forecast calls for more than 200 traditional bank combinations across the nation, compared with 121 in 2008.
Dave Nelson, chief executive officer of West Bancorporation, already is starting to see signs of the increase in activity. The West Des Moines-based banking company, which does business as West Bank, has $1.27 billion in assets and 11 locations in Iowa.
"A lot of people want us to be buyers, and we've been getting a lot of inquiries from bankers looking to sell," Nelson said, noting that he's expecting an exponential increase in bank mergers this year. "We have the critical mass to absorb all these new regulations and the costs that go with them. We can survive, but some other community banks cannot. Clearly, the smaller you are, the more difficult it is."
Suku Radia, chief executive officer of Des Moines-based Bankers Trust, estimated the tipping point between the haves and the have-nots at $250 million in assets. Bankers Trust has more than $3.6 billion in assets.
"We could see scenarios in which one community bank is buying another - that's really what's going to happen," Radia said, noting that the nation's largest banks have been shedding branches in small Midwestern communities and are unlikely to be buyers this year.
Traditional bank merger and acquisition activity averaged 174 per year in the U.S. from 2008 through 2011, according to data NCP gathered from the Federal Deposit Insurance Corp., the Standard & Poor's rating agency and the Iowa Division of Banking. That's a 46 percent drop-off at the national level from the 324 average compiled from 2005 to 2007.
Traditional merger and acquisition activity does not include the assisted mergers orchestrated by regulators after a bank failure.
Banking sector turmoil generated 414 bank failures in the U.S. from 2008 to 2011, according to NCP, compared with only three failures from 2005 through 2007.
"Compared to what we've seen, conditions will be more conducive to M&A activity," said FDIC Chief Economist Richard Brown, noting that activity has been somewhat muted in recent years. "The numbers of failed banks have declined pretty markedly as well."
Jim Chessen, chief economist of the American Bankers Association, said the irony of this year's merger and acquisition market is that small bank owners are being forced to sell by regulations meant for larger banks. Some of the tactics big banks employed in the pursuit of profit growth just don't work in rural America, where one dissatisfied customer can have a much larger impact on a bank's reputation than in heavily populated urban areas.
"We have seen an avalanche of new regulations on the banking industry the past several years, and while the impression was that the legislation was targeted at the largest institutions, the fact is that it's had a widespread impact on the smallest banks in the country," Chessen said. "There's going to be more interest in finding merger partners because you need to be bigger to manage the compliance burden."
The biggest banks have agreed to billions of dollars in civil settlements to put the past behind them. They've agreed in the past year to spend more than $33 billion for alleged foreclosure abuse and more than $2.8 billion for alleged money laundering.
The new regulations prompted by their questionable conduct remain.
"One of the unintended consequences of the government response to the behavior of the too-big-to-fail banks during the Great Recession is a compliance burden that's too heavy for some of the smaller banks," NCP Vice President Brett Peterson said. "An extra $300,000 to $500,000 of annual compliance expense is prohibitive for a bank with less than $100 million in assets and may cut their profit in half."
NCP also is forecasting a rebound this year in bank valuations. Peterson expects bank prices to average 1.5 times the cash equity on their balance sheets, also known as "owner's equity" or "price-to-book." That means a bank with $10 million of cash equity is likely to fetch $15 million this year, vs. $11 million from 2008 through 2011, when the bank-valuation multiple was 1.1.
The lower multiple created pent-up demand by prompting some bank owners to delay sales, much as some homeowners have delayed selling their homes until home prices recover. The multiple peaked in 2007 at 3.1.
The combination of rebounding bank-valuation multiples and more expensive compliance costs creates a favorable climate for merger and acquisition activity.
"A well-run smaller bank can still make it, but there's going to be fewer of them," said Nelson, the head of West Bank.