M & A: how to put money in the bank; Fifth Third Bancorp CFO Mark Graf talks about the Ohio-based regional bank's highly successful merger strategy and the process it has in place to assure that the deals work.

Almost since its inception in 1858 as an obscure bank in the Ohio Valley, Fifth Third Bancorp has been a voracious acquirer.

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That urge to merge has transformed the Cincinnati-based financial institution into a huge multibank holding company with operations in eight states, mostly in the heartland. In covering a swath of territory from Tennessee to Illinois, plus Florida, the bank boasts $102.7 billion in assets and 1,092 full-service banking centers. Fifth Third, which came by it dowdy name in a 1908 merger, has engineered 90 acquisitions in the last 25 years alone, averaging close to four banks takeovers a year.

Now the 10th-largest banking company in the U.S., it's always on the prowl for new banks in new markets. "Fifth Third Bancorp," declares a recent research report by Friedman Billings Ramsey, a Washington, D.C.-area brokerage, "regards acquisitions as a key strategic tool to grow and enhance franchise value."

But such a strategy is not without risk. "If it becomes too aggressive and overpays for certain acquisitions," the FBR report notes, "or if it is unsuccessful in integrating transactions, earnings may be diluted."

At Fifth Third, Mark Graf, the senior vice president and CFO, is the person charged with seeing that takeover risks are minimized and that Fifth Third's strategy does not falter. As a direct report to the chief executive--West Point graduate and hard-charging Vietnam veteran George Schaefer--Graf remains a key figure in overseeing every takeover transaction.

"Generally, the CFO is the quarterback on the deal," says John Arfstrom, a bank analyst at RBC Dain Rauscher, a Minneapolis-based investment bank. "He sets the strategic vision. And he's in charge of hammering out the execution and the integration."

Fifth Third is renowned for its workaholic corporate culture. The bank combines a sales-obsessed but well-rewarded workforce with old-fashioned frugality. The culture is so distinct that Harvard Business School once used Fifth Third as a model for a case study on "hustle as business strategy." Over the years, numerous banks have sought to replicate its style, usually with little success. It is a formula, however, that works for Fifth Third: until 2004, its earnings growth had surpassed 10 percent for 22 consecutive years.

Much of that record was due to the company's adroitness at snapping up targets in key markets, swiftly incorporating new banks into the organization and infusing it with Fifth Third's sales-driven culture. Once they display the Fifth Third logo, newly acquired banks are soon off to the races--wooing new depositors, revving up loan growth, slashing overhead expenses and pushing the sales force to outperform each other with an array of cash, prizes, contests and other incentives--including, of course, increasingly valuable Fifth Third stock.

The bank suffered an unaccustomed chink in its reputational armor when $82 million went missing in 2002--though executives dispute that the "reconciliation issue" was linked to an acquisition, attributing it rather to a glitch in treasury operations. In any event, federal regulators placed the bank under a regulatory watch from February 2003 until May 2004, which called a temporary halt to its acquisitions.

In the past year, however, Fifth Third has resumed its acquiring ways. On June 11, 2004, it took over Nashville-based Franklin National Bank, its first foray into Tennessee. On Jan. 1, 2005, it completed the $1.5 billion buyout of First National Bank-shares of Florida.

Good Pedigree

Just 40 years old, Graf seems to have the ideal background for someone quarterbacking these deals. Before he arrived at Fifth Third to become corporate treasurer in 2001, he had managed mergers, acquisitions and strategic planning at AmSouth Bancorp, a Birmingham, Ala.-based banking company. Since coming to Fifth Third, Graf, who holds an MBA from the Wharton School and even worked on Wall Street for a time--he handled private equity finance at J.P. Morgan--has become a devoted disciple of the bank's acquisition philosophy. He become CFO last year.

Even before it considers a takeover target, Graf says, Fifth Third's goal is to ensure that a new bank in the fold will give it a firm foothold in a given market. That, in turn, serves as a launching pad for Fifth Third's famous "prospecting" blitzes and "shoe leather" campaigns--these are all watchwords in the Fifth Third lexicon--by which the bank drums up business and grows market share.

"There are two camps out there," Graf says. "A lot of folks look at M & A as a way to do cost-takeouts. You put Bank X and Bank Y together and take out costs, and it's accretive to the shareholder. Then you look down the road to see if revenues have grown. But what we do," he adds, "is create something that only gets bigger. That's a critical piece of the puzzle."

The recent Florida deal is a case in point. With 16 branches and about a billion dollars in assets, Fifth Third's presence in Naples--which dates to 1985--had been a modest one. Although the bank's brand was easily recognized by sun-seeking expatriates from the Midwest, Naples, an affluent retirement area in the southwest corner of Florida, was home to what was largely a trust operation. "It was never a big growth engine," Graf says.

Yet the greater Florida market was one that Fifth Third had eyed longingly for some time. "Florida made a lot of sense for us," Graf says. "It's not just the migration, but the house-hold wealth and the nature of the snowbird community that splits the year between the Midwest and the South. So we started looking at opportunities. We also wanted to get in with enough share that would make sense."

First National Bankshares of Florida fit the bill. It was doing business in all the markets that Fifth Third was most interested in, Graf says, especially Tampa-St. Petersburg, Boca Raton, Orlando, Daytona, Jacksonville and West Palm Beach. And the deal neatly complemented its ongoing operations; only a handful of branches around Naples were sold to satisfy regulators' concerns about concentration.

The newly configured operation sports $7 billion in assets and some 90 branches. "That's a big enough platform to bring us the resources to grow organically in all these markets," he says.

Before embarking on any deal, Graf says, an executive management team will be assembled and consulted every step of the way. Probably 10 people--including the top leaders at the bank's retail, commercial, risk management and payment-processing operations, as well as the bank's auditor and the coordinator of the affiliate banks--vet a takeover candidate.

Teamwork and transparency are key elements of the process. "When we want to make an acquisition," Graf says, "I bring the idea to that group, lay out the opportunity and the challenges, the pros and cons. It's not, 'We'll hook it, you cook it.' That's a recipe for disaster."

If the idea passes muster with the executive team, it's time for what Graf calls "the first date." This entails a private meeting among Schaefer, himself and his counterpart and the CEO at the target bank. "It's a high-level sit-down," Graf says. "We don't talk about price and deal structure. It's more about trying to understand how they run their company. We also try to figure out whether it would be a good cultural fit. In any acquisition, it's not just about assets and liabilities, but human talent as well."

At this point there may be certain red flags. The prospective acquisition may have an autocratic leadership style or its work ethic may be less than stellar--or the company "may not be as focused on the shareholder as we are," Graf says. "At the end of the day, no one of these things is a deal-breaker, but each one could send up a red flag."

If there are no major reasons to pull the plug on the deal, a second round of visits ensues. This time an executive team from Fifth Third goes over the target bank's operations, meeting with its people to discuss the organizational structure and assessing the target bank's strengths and weaknesses. Out of this period usually comes a price and an offer. "After we put a price on the table," says Graf, "we set up the formal due diligence.

"This is when we start kicking the tires," he says. "We look at lawsuits and loan files, review the books and the records of the company. We'll do the traditional deep dive on the information technology side to understand what their systems look like and what's involved in converting their system to ours.

"It's a pretty comprehensive look," he adds. "We always look to see if there's a Pink Elephant, something that would make us walk away--God forbid if there's fraud--or something that would change our opinion about the health of the company."

Over the years, Fifth Third has preferred to use its pricey stock to make purchases. But since "pooling" accounting treatment is no longer permitted, Graf says it is becoming harder to use stock in purchases. In the case of the Florida deal, the bank used "100 percent stock," Graf says, but then followed up with a stock repurchase "to get to the same point as if cash was used. That was our idea. But Wall Street bankers can help structure challenging transactions."

The CFO is blunt in his comments on the uses--and abuses--of Wall Street. If an acquisition warrants it, as with the Florida deal, Fifth Third hires Wall Street bankers to provide a fairness opinion. But, "we didn't feel that it was necessary to spend shareholders on the Tennessee deal," Graf says.

Wall Street bankers can also help "deliver the other side" should they balk. "If they have a good relationship [with the bank being acquired], they can serve as a bridge-builder and a peacemaker," he says. "What I value most is candor. I always ask them their thoughts. I don't want them just to be yes-men."

Wall Street also plays an important role when investment bankers present Fifth Third with a willing acquisition candidate. "Bringing me the pitch book is not the same thing as bringing me a deal," Graf says. "If a Wall Street banker says, 'I had dinner with this CEO from Bank X and here's his phone number and he's ready to dance,' clearly that's making things happen. That's delivering the goods."

But the investment bankers' presence is not always so salutary. "At its worst, Wall Street becomes a rumor mill and actually has a negative impact on the ability to get a transaction done," Graf says. "Because of leaks, the price can go up and a deal can blow up."

So far, Fifth Third has avoided the reputation of being a domineering new owner who cleans house and administers shock therapy. By maintaining a decentralized organization in which 17 affiliate banks operate autonomously, Fifth Third has developed an integration process that is less messy than most.

"One of the things we're committed to is the local nature of our business," Graf says. "Our decision-making--whether it's in Grand Rapids or Nashville--is made by local people. And sometimes it's a hometown boy or girl. They're our local face in the community."

Even so, the integration process is never painless. "Our primary constituency is our shareholder base," Graf says. "We are always going to look to streamline and right-size operations. So you have to make the right decisions for the business. But you also try to do the right things for the people who are displaced."

Back-office and clerical jobs are the ones most likely to be phased out. "You give them appropriate notice," Graf says of displaced employees. "You try to provide outplacement assistance and sponsor job fairs with other employers in the area. We try not to be cavalier."

But, because this is Fifth Third, chances are good that job opportunities will open up for people in sales. There are usually openings for people who don't mind getting up early in the morning to sell mortgages or work through their lunch hour to discuss loans with a commercial borrower or pay a house call on a prospect to close on a home equity loan.

"We're in business to win," says Graf. "That's what our shareholders ask us to do. And, playing by the rules, we aim to win every time."

RELATED ARTICLE: take aways

* Fifth Third has done 90 acquisitions in the last 25 years, a period in which many other banks have been involved in building interstate banking networks.

* The bank takes a local approach to its markets, delegating decisions to people in those communities and often choosing local natives to lead the efforts.

* The bank's M & A process starts with a "first date" involving the respective CEOs and CFOs.

* CFO Mark Graf says that ultimately, shareholders are meant to be the primary beneficiaries of any deal. But the bank does try hard to find jobs for any displaced workers at the target company.

Paul Sweeney is a freelance writer in Austin, Texas, and a frequent contributor to Financial Executive. He can be reached at 512.499.8749.