When Mike Price and his colleagues formed Mercantile Bank Corp. nearly 20 years, they faced a vastly different landscape versus what exists today.
Compared to the late 1990s, anyone who wants to form a new bank nowadays has to deal with a difficult interest rate environment that challenges earnings, deeper competition, a “tremendously higher” regulatory burden, and higher capital requirements.
That’s why Price doubts a change by federal regulators to reduce the period for enhanced supervision will have a large effect on startup or de novo bank activity that’s been virtually absent in the U.S. and Michigan in recent years.
“It’ll be helpful, but I don’t think there’s going to be too many groups going, … ‘We’re ready to jump in,’” said Price, the chairman and CEO of Grand Rapids-based Mercantile Bank. “I don’t think that would be on the top seven or eight things that you would list as, ‘Boy, that’s a positive change. Let’s go start a de novo.’ Some of the other things that are out there are different than 19 years ago (when Mercantile started).”
Seeking to spur the formation of new community banks, the Federal Deposit Insurance Corp. (FDIC) intends to roll back the enhanced regulatory oversight period from seven to three years for de novo banks, a widely used Latin term for banks that are newly formed. The practice was put in place during the 2008 financial crisis.
During the subsequent Great Recession and the resulting spike in bank failures and stressed institutions across the U.S., the FDIC essentially stopped approving new bank charters, said Kim Baber, a partner at Grand Rapids law firm Varnum LLP.
When combined with the heightened regulatory burdens and capital requirements, even bankers who wanted to pursue the formation of a de novo bank became hesitant, Baber said.
“People in ’08 and ’09 who had their application in were told, and maybe not formally denied, ‘This isn’t going to be approved,’” she said. “It’s already a difficult process to raise the capital and go through all of the hoops that they make you jump through, and it’s very expensive and time-consuming.
“So to then think you don’t have a chance of getting approved, that caused a lot of people to say, ‘I’m not even going to try.’ I think the rescinding of the policy is going to be a signal that the regulators are willing to entertain new applications, and that’s an important signal.”
The last new banks formed in Michigan were Grand River Bank in Grandville, which has a single location and ended 2015 with total assets of $159.6 million, and Ann Arbor State Bank, both in 2009.
Baber believes the FDIC policy change could spur some de novo activity over time.
“It’s going to encourage new charter applications,” Baber said. “It’s not going to be sufficient by itself, but I think you will see an uptick.”
In announcing the policy change during a community banking conference last month in Arlington, Va., FDIC Chairman Martin Gruenberg said that de novo applications across the country have declined “to a trickle in recent years.” He attributed the decline to “the challenging economic environment of the post-crisis period.”
“We expect chartering activity to pick up as economic conditions continue to normalize,” Gruenberg said. “We have seen indications of increased interest in de novo charter applications in recent quarters.”
Rolling back the enhanced supervisory period for newly chartered banks should help, Gruenberg said. The FDIC is also “very committed to working with, and providing support to, any group with an interest in starting a community bank,” he said.
“There is ample room for new community banks with sound funding and well-conceived business plans to serve their local markets,” Gruenberg said.
The FDIC rescinded the policy amid heightened consolidation in the banking industry over the last few years. In the past, consolidation has often led to the formation of new community banks, as executives or senior lenders decided to strike out on their own.
That was the case in West Michigan in the late 1990s when mergers involving three larger home-grown banks — Old Kent, FMB Corp. and First of America — led to the formation of institutions such as Mercantile Bank, Holland-based Macatawa Bank Corp., Community Shores Bank Corp. in Muskegon, and the former Keystone Community Bank in Kalamazoo, which was later acquired.
However, de novo activity has yet to take off in recent years as bank M&A picked up.
Gregg Dimkoff, a finance professor at Grand Valley State University’s Seidman College of Business, primarily cites the “tremendous competition” not only among banks but from credit unions as the key barrier to the formation of a new bank today.
“It’s much more difficult now. The competition has ramped up,” Dimkoff said. “The scale you need now to compete is huge and is much larger than it was in the 1990s.”
Mercantile’s Price also cites the emergence of mobile baking in the last decade, which requires large investments to develop and maintain, and the lackluster IPO market to raise capital as further impediments to chartering a new bank. In the era when Mercantile Bank and others formed and later went public, the IPO market “was very open and very welcoming to these types of ideas.”
But the public markets have cooled toward the banking industry, “for various reasons that have nothing to do with banking,” Price said.
Yet as consolidation in the banking industry continues, there remains the potential for investors to act on the opportunity and take on the challenge of forming a new bank.
“I think some of these recent mergers could give some people pause to say, ‘Well, maybe there’s a spot for a de novo bank out here,’” Price said.
Beyond the policy change for enhanced supervision, Varnum’s Baber sees a need for tiered regulation where the FDIC differentiates between large and small banks. The FDIC has signaled as well that it is interested in tiered regulation that could provide relief from regulatory burdens and costs of compliance that has played into the consolidation of community banks.
“What makes sense for the huge banks obviously doesn’t make sense for small, community banks,” Baber said. “As the regulators continue to focus on the differences between large banks and community banks and focus on this need for tiered regulation, that’s going to be very helpful as well.”
The FDIC could also spur bank startups by creating certainty in how it will enforce regulations, easing the risk for executives and their investors, Baber said.