The viability of community banks has come into question because of the economic recession of 2008, the passage of the Dodd-Frank Act, and the continued consolidation of banks. The recession of 2008 ignited a round of bank closures and The U. S. Congress responded by passing the Dodd-Frank Act. This law generated thousands of pages of regulatory guidelines and rules. The cost of this new regulatory burden was expected to eliminate the viability of community banks. Only the large banks could afford to retain the staffing necessary to comply with these regulations. Large significantly important financial institutions continue to acquire other smaller institutions as they failed to generate organic growth. The Organizers recognize these concerns and dedicated significant time evaluating, both current and historic, information to determine the viability of the project.
Although bank closures made headlines these closures represented a small portion of the banking system. Only 8% of the total number of banks failed between the beginning of 2007 and the end of 2014[1]. In 2010, 157 banks failed representing the largest annual number of bank failures. As of 2014, only 18 banks failed. Over the first five months of 2015, only five banks have failed and it is projected that less than 18 banks will fail for all of 2015[2].
Doreen R. Eberley[3], Director, Division of Risk Management Supervision for the FDIC, recently stated, “Although 448 community banks failed during the recent financial crisis, the vast majority did not. Institutions that stuck to their core expertise weathered the crisis and are now performing well. The highest rates of failure were observed among non-community banks and among community banks that departed from their traditional model and tried to grow rapidly with risky assets often funded by volatile non-core brokered deposits.”
A community bank’s business model is also supported in a Federal Reserve study dated in 2012. Research conducted by the Federal Reserve Bank of Richmond[4] evaluated bank financial characteristics before the recession (1Q 2000 -3Q 2007), during the recession (4Q 2007 – 2Q 2009) and after the recession (3Q 2009 – 2Q 2011) to identify strategies and characteristics of a solid bank. The study created two groups, healthy banks and the control group. Healthy banks were those banks rated CAMELS 1 or 2 in the second quarter of 2007 and maintained a 1 or 2 CAMELS rating through the recession to the first quarter of 2010. The control group was comprised of banks with composite CAMELS ratings of 1 or 2 before the recession and that subsequently were downgraded to less than satisfactory.
By comparing these two groups, several key characteristics of a successful bank were identified. The study stated, “Several common themes emerged. The most common was the presence of veteran senior management, coupled with a supportive and engaged board of directors. Six of the nine institutions discussed this attribute as important for success. Senior management at these institutions are veteran community bankers with long tenures at the current or legacy banks. The interviews highlighted two key features of an effective governance structure. First, the board approves and supports the bank’s strategic plan including the risk appetite. Second, the board is not involved in daily decision-making, but is committed to carefully monitoring management’s execution of the strategic plan.
In general, successful boards in this sample are composed of individuals knowledgeable about the community and their own businesses and committed to the bank. One of the Board’s main functions is to initiate opportunities for business development. Leading up to and during the crisis, it was important for boards to remain committed to the bank’s business plan and to allow senior management latitude to engage in timely reactions to issues without board approval. In all cases, senior management had implemented the bank’s business model before the real estate cycle began. As local real estate markets began to heat up, each bank resisted the temptation to change focus and dramatically ramp up acquisition, construction and development lending.
Sample banks (healthy banks) are committed to conservative business models. They emphasize relationship banking, detail knowledge of their markets and customers, conservative underwriting couple with detailed loan administration, careful growth plans, diversified balance sheets and business opportunities that fit the bank’s expertise.”
The link between quality management and the success of the bank was recently reiterated by Martin J. Guenberg, Chairman, FDIC. In a speech dated May 12, 2015 to the American Association of Bank Directors, “The quality of management and the way it governs a bank’s affairs are probably the most important factors in the successful operation of a bank.”
Not only can the community bank business model survive economic turmoil, it is also important to local economies. As the leader in small business lending, community banks become an economic driving force in their communities. Lack of community banks can result in slower economic growth and hinder a community’s ability to thrive.
[1] Speech by Martin J. Gruenberg, Chairman, Federal Deposit Insurance Corporation to the American Bankers Association as of May 12, 2015.
[2] Ibid
[3] Testimony by Doreen R. Eberley on Regulatory Relief for Community Banks, before the Committee on Banking, Housing and Urban Affairs, US Senate, February 10, 2015.
[4] The Federal Reserve Bank of Richmond, Weathering the Storm: A Case Study of Healthy Fifth District State Member Banks Over the Recent Downturn, November 2012.
