The battle facing banks

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Doug Childers

Talk about an avalanche of bad news: Foreclosures soar. Stocks plunge. Credit markets freeze.  Although he had detected some signs of trouble, this isn’t the environment T. Gaylon Layfield III expected when he began talking 16 months ago about starting a bank in Virginia.  “We’d started to see the cracks around the foundation of house prices,” Layfield says.  “It was after the first of the year and spring that the severity of all that came to light.”

Still, the fundamental strategy behind Xenith Bank hasn’t changed.  Layfield will serve as president and CEO at the bank, whose target customers will include businesses with $5 million to $250 million in sales.  Layfield believes this middle-market segment largely has been ignored by big banks and underserved by Virginia’s small community banks. “Community banks do a terrific job serving retail customers and small businesses, but they don’t have the capital to serve big customers,” he says.

But the task of finding capital for any bank, old or new, is tough. Initially, Layfield planned to raise $70 million to $100 million, with $35 million coming from BankCap Partners, a Dallas-based private-equity firm. That goal looked very reasonable 16 months ago.  In 2007, BankCap Partners invested $38 million in a new bank in Atlanta, and the bank raised an additional $87 million from other investors. “Raising that kind of capital has become increasingly difficult today,” Layfield says.  “The world has changed, and we have to live with it.” 

Those changes include a worldwide financial crisis that persists despite massive government intervention, including a $700 billion U.S. bailout plan. If current conditions continue, new financial institutions like Xenith may become a rarity as the number of banks nationwide shrinks in a series of mergers. In the meantime, many banks are battling for new deposits by raising interest rates.
Xenith now has commitments of about $50 million. Layfield expects his final total to be at the lower end of his capital target when the bank opens offices in Richmond and Tysons Corner near the end of the first quarter.

Despite Xenith’s lowered expectations, its capital-raising efforts still are impressive. Most new banks in Virginia raise $15 million to $20 million, says Joe Face, commissioner of the State Corporation Commission’s Bureau of Financial Institutions.

Fewer new banks
Nationally, half as many new banks opened in 2008 (73) as in 2007 (146), according to SNL Financial, a Charlottesville-based distributor of financial information.  That’s well below the number of new banks that opened in 1999 (200), at the height of the dot-com boom. 

The number of banks organizing in Virginia, however, hasn’t dropped significantly in recent years. The State Corporation Commission (SCC) approved four new banks each year from 2004 through 2007.  Last year, the number fell to three. (They were Frontier Community Bank in Waynesboro, Virginia Partners Bank in Fredericksburg and Community Capital Bank of Virginia in Christiansburg.) 
By comparison, the highest number of new banks approved by the SCC in the past 10 years was nine in 1999. The lowest number (one) occurred in 2001, the year of the last recession.
Still, the troubled economy may make it tougher to open other banks in the commonwealth this year. “After that, I suspect we’ll see considerable consolidation in the banking industry,” says Layfield.  “We’re already beginning to see that.”

McLean-based Capital One Financial Corp., now the nation’s 13th largest bank, is among those involved in the consolidation. The company, best known for its credit cards, began a major thrust into commercial banking with its purchase of New Orleans-based Hibernia Corp. in 2005 and New York-based North Fork Bancorporation in 2006. In December, Capital One announced that it would acquire privately held Chevy Chase Bank for $520 million in cash and stock, making Capital One the largest bank in the Washington, D.C., region.  Chevy Chase Bank now has 285 branches, including more than 80 in Virginia.

In addition, Charlotte-based Wachovia Corp., Virginia’s market leader in terms of deposits, has merged with San Francisco-based Wells Fargo & Co. Wachovia was forced to seek a buyer after being crippled by subprime mortgages acquired in its 2006 takeover of Golden West Financial Corp.

In the past, the lingering effects of consolidation offered opportunities for bank entrepreneurs such as Layfield. Mergers often left many bank customers longing for more personalized service, says Face.  That demand prompted executives to create new community banks, but Face isn’t sure that will happen this time.  “If there is some bank consolidation in 2009, I think it may breed some new startup bank groups, but capital-raising may prove difficult,” he says.


Money from the government
Many established banks are turning to the federal government for help in raising capital.  By late December, 36 state-chartered banks in Virginia had applied for a total of $705.9 million from the Treasury Department’s Capital Purchase Program, a $250 billion subset of the $700 billion Troubled Assets Relief Program. Capital One was among 19 larger banks that also received capital infusions from the government by selling it preferred stock. Capital One got $3.6 billion, but said it did not need to participate and didn’t use the money to buy Chevy Chase.

The banks’ acceptance of federal money shouldn’t be viewed as a negative development, says Bruce T. Whitehurst, president and CEO of the Virginia Bankers Association.  “This is a good thing for healthy banks, of which we have many in Virginia.  We saw 25 of the nearly 8,500 banks in the U.S. fail in 2008 — none in Virginia.”

Banks aren’t the only ones looking for federal help.  Genworth Financial Inc., a Fortune 500 insurance and financial services company based in Henrico County, plans to purchase InterBank of Minnesota to get access to the Treasury program. In the second and third quarters of 2008, Genworth reported losses of more than $360 million and announced in January that it would eliminate 1,000 jobs, including 630 in Virginia, about 14 percent of its work force.

In a bid to shore up their capital, some banks are paying relatively high rates on deposits to attract customers looking for a safe place to park their cash.  The offers are especially enticing because of the stock market’s volatility and new higher limits on FDIC insurance on bank deposits (now $250,000 instead of $100,000).  “More money has left the stock market and gone into deposits, which is good for banks, if not the stock market,” Whitehurst says.  “Deposits tend to be more reliable, predictable and lower cost than some funding sources, and they directly enable banks to make loans.”
Attracting deposits through rate competition isn’t new. Steven A. Reeder, executive vice president of retail banking for Arlington-based Virginia Commerce Bank, suggests banks are experiencing a paradigm shift in their approach.  “In the current environment, we are seeing larger banks like Citi, SunTrust and PNC emphasize pricing tactics, whereas previously competition came largely from fellow community banks and credit unions.”

Battling for deposits isn’t risk-free.  An interest-rate war for deposits can cut into a bank’s profit margins, forcing it to raise rates on loans, for example.  And moving in and out of pricing promotions may diminish a bank’s ability to retain loyal customers.  But Reeder says his bank’s efforts to position itself as a consistent price leader in rates are paying off.  (In early January, the bank offered 3.50 percent annual percentage yield on a 12-month CD, which was the highest rate in Arlington County.)

“Our deposits increased more than 19 percent year-over-year through the third quarter, from $1.8 billion to $2.15 billion,” Reeder says.  “The good news for us is we’re able to continue to grow our loans and deposits, and the impact on profitability is less, even though we’ve got a lower margin.”

As his bank takes shape, Layfield also sees cause for optimism despite the gloom shrouding his industry. “In this environment, there’s no better time to attract new customers,” he says.

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