I started investing in community banks for the first time this year. One of my objectives is to understand what it’s like to run a community bank from the perspective of executive management.
Luckily, the FDIC held an all-day conference titled “Community Banking: Strategies for Long-Term Success” earlier this year and posted it on its website. There are morning session and afternoon session recordings. Combined, the sessions last seven hours. I found the videos to be highly informative for strategy but also for operational fundamentals related to running a bank. The speakers included bank executives, regulators and academics. The conference focused on four themes.
- Business model.
- Role of supervision.
- Opportunities and challenges of information technology.
- Ownership structure and succession planning.
The morning session covered the first two topics and the afternoon session the remaining topics. Each topic was covered by a panel, and there was a Q&A session following each topic. The conference started with an introduction from FDIC Chairman Martin Gruenberg in which he highlighted the importance of community banks to our economy. Here are some of the interesting bits of information.
- Definition of community bank involves relationship banking, stable core deposits and experience servicing a specific geography that the bank understands well.
- There were ~6,200 total banks in the U.S. at the end of last year.
- Community banks account for ~13% of total banking assets.
- As a frame of reference, the top 20 U.S. banks by assets held ~80% of total assets.
- Community banks account for 44% of all small loans to businesses and farms made by all banks in the U.S.
- Most of the lending done by large banks to small businesses is for credit card lending.
- In 21% of counties across the country, the only bank is a community bank.
- Bank consolidation began 30 years ago when bank deregulation started.
- Thirty years ago there were 13,600 banks with less than $100 million in assets. Today there are fewer than 2,000.
- In the $1 billion to $10 billion asset range, there are more banks today than in 1985.
- Consolidation is taking place at a higher rate in noncommunity banks.
- Banks with less than $100 million in assets were more resilient than any other group of banks. They continued to operate by merging and growing.
- Median size of community bank is $176 million.
- Community banks held 75% of deposits for over 1,100 counties in the country (3,007 counties total U.S.).
- Most economies of scale are reached by $100 million in assets according to FDIC.
Business model
The panelists for this section consist of four community bank executives and one panelist from academia. The biggest takeaway is that community banks fill a void in lending to small businesses where big banks struggle. Big banks have such a large and diverse customer population that it’s difficult to understand all of the types of industries to which small businesses cater. As a result, big banks reject many small business loan applications whereas community banks can be more flexible.
For example, one of the panelists represented a bank from a small town in New Mexico. Her clients tended to be arts and crafts companies along with tourism companies. Her bank’s specialized knowledge of the region’s economics and the personal relationships in the community allow them to extend loans to businesses which big banks would overlook.
A participant asked a question regarding the panelists' opinions on whether they saw the rise of fintech applications as an opportunity or a threat. The panel overwhelmingly saw fintech as an opportunity. Big banks are attempting to use fintech to standardize and approve loans over the Internet. The panelists unanimously agreed that all of their borrowers were imperfect in some way and that just about all web applicants would be rejected. That would be an opportunity as each web applicant would become a sales lead and the community bank would be able to work with those small businesses individually to accommodate their specialized needs.
Role of supervision
The panel for this portion of the conference consisted of regulators and bank examiners from government agencies. The regulators' main message to the conference attendees was to involve government agencies early in any new industry initiatives. They also wanted to update the attendees about prior concerns and the progress made. A key concern was about unclear regulations and not knowing where to find the main reference materials. Regulators have made many reference materials available on the FDIC and the Federal Reserve websites. Regulators also addressed the complaint that there was too much time spent by banks dealing with audits. Regulators responded by detailing steps taken for bank examiners to do more work offsite and for more communications to occur electronically.
Another interesting concern came during the Q&A session. One person described the problem of an oligopoly from third-party core processors. Banks outsource certain services like payment processing to third parties. One of the biggest companies in this space is Fiserv (FISV, Financial). The concern was that her bank was in the midst of renewing its contract for these third-party services, and these companies had too much power. They were including unreasonable liability clauses in their renewal contracts where the service providers were asking clients to assume the liability from their mistakes. Interestingly, there was a Fiserv representative in the next session of the conference, and another participant addressed how it handled contract negotiations.
Opportunities and challenges of information technology
The panelists for this section consist of three community bank executives and one panelist from Fiserv, a third-party service provider. An eye-opening statistic was given by an executive that her bank with assets of less than $300 million was exposed to 800,000 cyber attacks every month. She discussed the need to educate the general public on best practices for online banking. People don’t leave their checkbooks or wallets laying around unattended at coffee shops, but they leave their laptops unattended or log on to unsecure networks without a second thought.
One stereotype is that community banks are unknowledgeable about technology. However, I was impressed by the panel’s insight. They were all aware of the shift to mobile banking. Mobile banking and remote check deposit is no longer a differentiating service. It’s expected by all customers now. There was a separate discussion about maintaining on premise servers or outsourcing to third-party cloud companies. Most executives agreed that they wanted to maintain their own data.
On the topic of third-party processors like Fiserv having too much power, another panelist shared his negotiation experience. His perspective was that the third-party processors were hungry for business because the number of banks – and thus their customer base – was declining. He didn’t have problems getting contract revisions and suggested that other banks leverage the competition against one another.
Ownership structure and succession planning
The panelists for this section consisted of three community bank executives and one panelist from academia. This was a topic and problem that I hadn’t considered. Many companies in general have outlined challenges with millennial employees. This is the segment of the employee population aged 34 and younger.
One common complaint is that they don’t stay at one job long and are impatient about promotions. Since many community banks are located in rural areas and commercial banking in general isn’t thought of as an exciting career path, the recruitment challenge is even more pronounced.
Another issue is that many executives are older and nearing retirement age. These banks need to find people to fill leadership positions down the line. As a result, a number of panelists describe how they have handled the human resource challenges. They’ve implemented internship programs and created internal leadership training programs. Another panelist volunteered that many millennials didn’t like working for big faceless corporations and that they had success recruiting employees from some of the big banks. Asked about the strengths of millennial employees, the panel concluded that they were collaborative, empathetic and tech savvy.
Disclosure: The author does not own any stocks mentioned in this article.
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