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Distressed M&A: Underpriced Gem or Empty Franchise?

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COVID-19 has thrown bank merger and acquisitions into disarray, triggering the collapse of several planned transactions and creating a cloudy future for deal-making. Novantas expects some clarity to emerge over time, however, creating potential acquisition opportunities for value-hunting buyers later this year and into 2021.

While evaluating credit quality is critical to any bank acquisition, evaluating deposit quality is of heightened importance during this unsettled time. The deposit book is typically evaluated based on a set of traditional benchmarks, but Novantas has found that it is also valuable to examine deposit management on a historical basis in order to help determine how deposits may behave in the future.

A Look at Past Deals

Novantas recently analyzed more than 300 deals from the past 15 years, including the largest non-government-assisted deals and all government-assisted deals that were above $1 billion. Specifically, we looked at the change in funding quality leading up to the transaction, followed by the post-deal deposit runoff. (While not every stressed deal is government-assisted, we felt it represented the easiest and cleanest proxy.)

The upshot? On average, deposit quality deteriorated significantly before government-assisted transactions, leading to materially-higher deposit runoff after those deals. There was a wide range of outcomes: some deposits accelerated after the transactions, while others experienced runoff of more than 30%.

For potential acquirors, this underscores the need to pay attention to the quality of a target bank’s deposits when pursuing M&A, especially as we enter a more stressed environment. Not doing so could be the difference between acquiring an underpriced gem and an empty franchise.


The analysis revealed notable differences in the changes to pre-acquisition funding mix of government-assisted and non-government assisted transactions. (See Figure 1.) In normal transactions, we see no material changes to mix or cost in the two years leading up to the deal announcement, with behavior largely tracking the industry during the entire timeframe. Failed banks, however, had material run-up in time deposits relative to the industry, with a corresponding increase in deposit costs of more than 30 basis points.

This phenomenon is not surprising since stressed banks try to bolster their liquidity position with the only tool they have: price. As a result, these banks materially shift their customer base towards a much more price-sensitive mix right before being acquired.

Failed banks, however, had material run-up in time deposits relative to the industry, with a corresponding increase in deposit costs of more than


Figure 1. Pre-acquisition Funding Mix & Costs

Time Deposits As % of Total Funding

Government-Assisted Transactions
Non-Government Assisted Transactions

Deposit Costs Relative to Industry

Government-Assisted Transactions
Non-Government Assisted Transactions

Source: Novantas analysis of call report data and M&A transactions


Banks that make stressed acquisitions where the target’s deposit portfolio has deteriorated are left with two undesirable options when these time deposits mature: either maintain the above-market rate offered to these price-sensitive customers or drop the rate and expect material deposit runoff. The effect of this can be seen by tracking deposits in legacy seller branches post-close. The typical failed-bank deal sees initial deposit runoff of eight percentage points higher than regular transactions. In many cases, that runoff persists well beyond the initial year post-close (See Figure 2.)

Not all stressed deals are alike, however. Breaking down government-assisted transactions further, we see that some acquiring institutions actually accelerated growth in legacy seller branches post-close, while others had initial deposit runoff above 15%, with continued runoff thereafter. (See Figure 3.) It’s often only through a comprehensive assessment of the target bank’s customer base that acquirers can understand what the expected range of runoff will be.

initial deposit runoff

Figure 2: Deposit Growth Pre- vs. Post-deal


Non-Government Assisted
Government Assisted


Non-Government Assisted
Government Assisted

Source: Novantas analysis of FDIC Summary of Deposits report

Figure 2: Deposit Growth Pre- vs. Post-deal

Source: Novantas analysis of FDIC Summary of Deposits report

Figure 3: Change in Deposit Growth CAGR Pre-close vs. Post-close (Government-assisted Transactions Only)



Figure 3: Change in Deposit Growth CAGR Pre-close vs. Post-close (Government-assisted Transactions Only)

Source: Novantas analysis of FDIC Summary of Deposits report
Note: Deal Close is defined as the date at which the sale is completed (e.g., 1-4 years post-close includes performance from the date one-year after deal close, to the date four years after close)


Periods of stress can create attractive acquisition opportunities for opportunistic buyers, but it is critical to understand the quality of the deposit franchise before making an acquisition. Novantas has identified high-level actions that can be taken during due diligence to help uncover any potential warning signs.

First, the target bank’s deposit franchise must be diagnosed thoroughly by analyzing the drivers of growth leading up to the acquisition. This includes understanding the degree to which growth comes from existing versus new customers and how much is driven using rate and/or marketing versus other factors. Other areas for analysis include an assessment of the quality of the underlying customer base by evaluating metrics such as customer depth, tenure and activity levels and an assessment of the quality of the bank’s distribution network, including location quality and fit with acquirer’s network.

Interested acquirers also need to estimate the impact of potential integration decisions to determine what will happen if the acquiring institution drops rates on legacy customers of the target bank after the acquisition is completed. While a buyer may want to run off “hot” money, it is critical to understand how much runoff will occur from that decision, as well as minimize any unwanted runoff through sound integration decisions.

While there are many moving pieces that go into the pricing of stressed-bank transactions (and in particular, failed bank transactions where loss-share agreements come into play), ultimately the underlying value of the target institution largely falls in the deposit franchise. Incorporating detailed deposit assumptions into bank valuation models ensures acquirers pay the right price for the transaction.

Novantas recommends rigorous deposit due diligence for any major bank acquisition, but it’s even more critical in stressed transactions where acquirers must separate out hot money to filter down to the true remaining underlying value of the franchise. Too often, acquirers have paid what they thought was a discounted price for a distressed bank, only to find limited or no underlying value. Enhanced deposit due diligence in the current strained environment can help buyers pay the right price for gems that can drive the transformation they need.


Mike Jiwani

Director – Finance & Corporate Development

bob final

Bob Warnock

Director – Corporate Development

bryan moore

Bryan Moore



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