Must Black banks merge or be purged?

SOMETHING ABOUT THE BANKING industry just isn't adding up. In an industry where commercial banks posted record profits of $48.8 billion in 1995 and savings and loan associations' earnings grew by $1.3 billion, the nation's largest black financial institutions have come up empty. There was virtually zero growth for the BE FINANCIAL 25 between 1994 and 1995. Assets among black banks and thrifts rose an anemic 1%, from $3.24 billion in 1994 to $3.27 billion in 1995. And deposits at these institutions fell 1% to $2.81 billion from $2.84 billion. How could this happen during such an apparently robust period of industry growth?

The truth is that industry trends made 1995 a real transition year for black financial institutions. Their inability to adapt quickly to trends carried major consequences. Many banks, however, decided to make tough choices, slowing their growth now to avoid paying a heavier price later. But is this stall in growth just the lull of repositioning, or is it the first warning sign of a coming consolidation of black banks and thrifts?

At first glance one might think the worst. After all, Indecorp, parent company of Independence Bank of Chicago and Drexel National Bank (ranked No. 6 and No.7 respectively on the 1995 BE FINANCIAL 25) sold the two institutions, worth some $279 million in assets, to Shorebank Corp., the holding company for South Shore Bank in Chicago. That's a hefty chunk of assets gone from this year's BE FINANCIAL 25. Although the reason for the sale was the retirement of Indecorp's Chairman George E. Johnson and President Alvin Boutte, such a loss doesn't bode well for black-owned banks. An initial $35 million deal to sell the banks to OmniBanc Corp., a blackowned bank holding company in Detroit, was scuttled last year when rising interest rates depressed the value of their bond portfolio. Apparently there were no other black-owned entities able to work out a deal to keep the 6th and 7th largest blackowned thrifts under black ownership.

Absorbing $279 million in assets is no easy feat for any bank. And there were countless other variables involved. But make no mistake, the Indecorp scenario is a clear reminder to black-owned financial institutions that they will not be spared in the current climate of consolidation.

Although a number of financial institutions have found ways to prosper, the current industry climate of cutbacks, conversions and consolidation has had an overall negative effect on black-owned banks and S&Ls. For larger white-owned banks moving to cut staffs, converting systems to new technologies, consolidating branches or merging with other financial institutions have actually produced cost savings, and created efficiencies that were not apparent before. In fact, technological advances such as ATMs and PC banking have become revenue generators for these banks because of the additional fees they charge for such services.

Black-owned banks have not been able to use these industry trends to such advantage. The majority of black-owned banks have taken longer to adopt such practices, in some cases because the benefits would be minimal, and in others because they lacked resources. For example, downsizing was a positive move for large banks because they were able to shift the savings on employee salaries into PC banking systems and other services that generate income from fees. Black-owned banks have operated with leaner staffs, so downsizing (and any savings it might produce) isn't an option.

Although the trends are not particularly favorable to black banks and thrifts, if they react with innovation and calculated aggression, there are opportuntities that can be capitalized on.

MUDDLING THROUGH THE MERGERS

The high volume of mergers has smaller banks wondering if the competition is getting too big to battle. While it is true that the Goliath institutions that result from mergers will have more resources as well as wider market reach and influence, it is not a given that bigger is better in the current banking environment. After all, what caused these mergers in the first place? Some industry observers say that many banks that are merging had become so big and bloated with inefficiencies that they could no longer compete in a changing marketplace. They maintain that the mergers are actually more clearly defining the competitive battle lines between large super regional and smaller local banks.

"We see merger activity across the nation as an opportunity," says WayneKent Bradshaw, president and CEO of Family Savings Bank in Los Angeles, ranked No. 6 on the BE FINANCIAL 25. "As they merge, they focus on economies of scale and technologies, leaving a window of opportunity for small niche marketers to focus on the 'high touch' market."

That's precisely what Louis E. Prezeau, president and CEO of City National Bank of New Jersey, has done. City National, ranked No. 12 on the BE FINANCL`L 25, has established a niche market among small customers who tend to get lost in the mix as large banks consolidate. The bank is trying to lure customers searching for a new banking outlet. "As huge banks consolidate and close branches--particularly when the two merging banks are local with branches across the street from each other--it reinforces City National as a local bank involved in the interests of the community and its customers," says Prezeau, who is also chairman of the National Bankers Association.

The merger of regional banks has not only caused many individual customers to take flight from large super regional banks, but it has also produced opportunities for banks like City National to purchase entire branches. City National's newest branch in Newark, N.J., was purchased in March from NatWest, which is currently in merger negotiations with Fleet Bank. Although negotiations for the City National purchase occurred before the Fleet/NatWest merger plans were announced, it is clear that the sale was a step designed to make NatWest a more attractive partner for the marriage with Fleet. Including the Fleet/NatWest deal, New Jersey has five scheduled regional bank mergers in different stages of completion. The other proposed mergers include First Union merging with First Fidelity; PNC with Midlantic; Meridian with United Counties; and USB with Summit. Prezeau says he is keeping City National positioned to pick-up additional customers and branches after all the mergers are complete. In essence, he does not see the mergers as a threat-he sees the reverse. "Where they see a reduction, we see ourselves expanding." Prezeau says.

Ronald A. Homer, president and chief executive officer of the Boston Bank of Commerce, plans to use the same strategy to grow. In Massachusetts, there are two proposed bank mergers in the mix: Fleet and Shawmut was just completed and Bank Boston with Bay Bank is pending. Homer says Boston Bank of Commerce, which presently has two branches and ranks No. 23 on the BE FINANCIAL 25, is considering picking up branches or customers as branch closings begin.

The strategic value of making key acquisitions is so sound that black-onblack bank consolidation is also likely. Mutual Community Savings Bank (MCSB) in Durham, N.C., acquired Greensboro National Bank, a blackowned commercial bank, last October. MCSB, which has an office in Greensboro across the street from Greensboro National's old branch, decided to purchase the bank and consolidate offices. The bank's President and CEO, George K. Quick, says the acquisition of Greensboro's $18 million in assets made MCSB the first thrift to acquire a commercial bank in North Carolina.

But assets are not the only thing to be harvested from merging banks. Homer says this current spate of merger activity will give him and other CEOs of black thrifts access to experienced banking employees who are downsized from their jobs at the merging banks. "Experienced banking people tend to ignore African American-owned institutions," says Homer. "They are looking for a job for life with larger financial institutions." With jobs in the industry hard to come by, he expects those attitudes to change.

If a great deal of the displaced talent gravitates to black-owned financial institutions, they will be better prepared to compete in the future. In order to weather the banking industry shakeout, having staff with the experience and know-how to offer better services will be very important. As Homer points out, "BANK consolidation does create less competition." All banks must make sure they don't become next year's candidate for consolidation. In Boston, Boston Bank of Commerce competed with five banks. That number will be reduced to three after the mergers, Homer says.

SEEKING A POLICY UPGRADE

Competition in the insurance business is shrinking as well, although it has little to do with mergers. Higher interest rates were expected to produce a boon for the insurance industry, yet black-owned providers still remain relegated to offering policies that cover little more than burial costs. The only notable exceptions are the top four firms on the BE INSURANCE LIST; North Carolina Mutual Life Insurance Co., Atlanta Life Insurance Co., Golden State Mutual Life Insurance Co. and Universal Life Insurance Co.

These four regional companies will no doubt remain viable entities in the near future. The nation's remaining 18 blackowned insurance providers should consider merging with one another to increase their assets and customer base, so that they can diversify their services, save on economies of scale and compete for market share. As it stands now, many of these firms have assets below $4 million. Last year's bleak performance forces us to reduce the BE INSURANCE LIST from 15 to 10 firms, accounting for $160 million in premium income. These numbers hardly compete with mainstream firms. As long predicted by industry analysts, including the BE board of economists, the retrenchment of black-owned firms in the insurance industry will continue until these companies find ways to make their services essential to people's lives--not just their deaths.

LEVERAGING THE LOAN BUSINESS

Perhaps the biggest growth opportunity for black-owned banks and thrifts is in the loan business. Perpetually dogged by the perception that they don't make loans, many black banks and thrifts are seeking ways to expand their lending policies.

Unfortunately, black-owned institutions have not shown a better ability to aggressively market and issue conforming and nonconforming loans. (Conforming loans are made to A-credit borrowers and can be purchased by other institutions on the secondary market. Nonconforming loans are made with special allowances, and are rarely, if ever, sold.) Instead, African American financial institutions, in particular thrifts and S&Ls, appear to be portfolio lenders more concerned with risk management than with originating loans that meet the secondary market guidelines. They will have to break that pattern to compete in the new banking environment.

Walter E. Grady, president of Seaway National Bank of Chicago, defends black banks on lending. He maintains that the disparity between their deposits and the amount of money they lend is due to a number of factors that prevent black customers from qualifying for higher loan amounts.

"Black-owned financial institutions have a low loan-to-deposit ratio because, if they are located in any black community, their base is likely to be low-to-moderate income families, usually with impaired credit, in areas where there is low employment and the housing costs about $50,000," Grady says. "It might take 20 loans to get $400,000."

As part of Seaway's commitment to lending, the bank has been offering home buyers a no-fee, zero-percent-down program since 1994. The main requirement is that the borrower purchase, or already live in, a house in the bank's neighborhood. "We try to develop products and services that the community needs," says Grady. The program did not garner much response in 1994, but things picked up last year. With some strong marketing, the bank boosted its loan portfolio from $61.6 million to $86.9 million.

At the Boston Bank of Commerce, CEO Homer says his bank has pulled back from mortgage origination due to the "excessive competition from large money center banks that have moved into our territory in order to make loans to meet responsibilities under the Community Reinvestment Act." The bank has instead turned to the credit card market. "We still originate loans, but a more strategic product," says Homer, explaining that the bank buys mortgages, originates nonconforming loans and makes mortgages for existing customers.

George Quick, CEO of Mutual Community Savings Bank in Durham, N.C., ranked No. 22 on the BE FINANCIAL 25, agrees that the CRA is burdensome. "We are paying the price for a regulation designed to bring larger banks in line and make them accountable. What it has done is push them into markets dominated by small and minority-owned banks. Now we have to be more competitive. We have to bid down to a lower level to make loans where the risk is greater and the potential for loss is greater." But still, says Quick, black banks are surviving.

Even the nation's largest black-owned bank, New York-based Carver Federal Savings Bank, has a long way to go to bring its mortgage department in line with mainstream financial Institutions. CEO Thomas Clark has orchestrated Carver's conversion to a community development bank, which should lead to the origination of more loans (See "The Reinventing of Carver Federal," this issue). Carver has been approved by the Small Business Administration to offer loans; certified by the Federal National Mortgage Association to originate conforming loans; and certified by the Federal Housing Administration to make loans. It even has the authority to form a bank holding company.

But with all its certifications, the bank has done relatively little to broaden its loan policy. In fact, until the March purchase of $26.3 million in loans from Chemical Bank, the bank had 13% of its assets invested in direct loans. Speaking of the loan department, Howard Dabney, Carver vice president, chief lending officer admits, "We were always certified, but we never used it."

Now that the bank seems prepared to use its lending strength, Clark says, "we plan to achieve a 50/50 split between investments in actual mortgages and mortgage instruments."

City National is establishing itself as a lending leader among black financial institutions. The thrift has popularized the 203K Housing and Urban Development loan in New Jersey so well that the Department of Housing and Urban Development recently awarded the institution for being the highest producer of bank loans in Newark in 1995.

Prezeau says the bank is also attempting to establish itself as a conduit for minority loans with the Federal National Mortgage Association. At the start of the year, City National was approved as a seller/servicer by the FNMA. It also sells residential loans on a servicing released basis to General Electric. "We've reinforced our loan servicing department, which has been geared to servicing commercial loans," says Prezeau. "We've hired mortgage servicing staff and increased our commercial lending staff." As a result, City National's loans jumped from $24.9 million in 1994 to $45.6 million in 1995. Other banks should begin to follow their lead, gaining interest income from the loans and establishing a solid reputation with local customers.

TECHNICAL DIFFICULTIES

Although all of the black-owned financial institutions are moving toward modernizing their banking systems, there are differences of opinion as to the true impact new technologies will have on their ability to service customers. While establishing ATM service for customers draws universal agreement, there is much debate about what type of PC/home banking and other electronic services are needed to increase a bank's customer base.

While larger banks seem to rely on electronic banking fees as a revenue stream, black banks eye technology more cautiously. Black-owned thrifts do understand there must be some technological presence so that customers don't feel shortchanged, but things can't be so space-age that customers are intimidated or overwhelmed. Family Saving's Bradshaw doesn't put a great deal of emphasis on home banking systems. "The educational level of the customer doesn't seem to be appropriate for them to get into it," he says. "It's overrated."

While most CEOs of smaller banks wouldn't be as blunt as Bradshaw, they will not let technology eclipse their biggest draw--their ability to give one-on-one attention to customers who don't want to be treated impersonally. Most black banks have added technological advancements that the customer doesn't have to see. Seaway National's Grady says his bank upgraded teller equipment, installed new signature verification technology and plans to convert to a check-imaging system soon. The bank is one of many that has a home page on the Internet and the bank's loan officers share a laptop computer.

"Banks have to stay on top of technology," says City National President Prezeau. The bank has a home page on the Internet that features the history of the bank, and there are plans to publish interest rates and add a mortgage application. Through the use of laptop computers and/or the Internet, loans can now be underwritten either at the customer's home or at the loan officer's desk. However, when it comes to originating a commercial loan, the information is computerized but "you still need the human touch," he says.

These modest technological upgrades are working now, but in the future black-owned financial institutions will have to better integrate electronic banking into their strategies for profitability.

SLOW MOVE TO DAYLIGHT

The CEOs of black-owned financial institutions seem to have a good grasp of marketing to niche audiences. And why not? They've always had to serve their communities. "In the past we were the lender of last resort, we want to change that," says Clark of Carver Federal.

Well, it can change, but only if black banks and thrifts can escape an entrenched conservatism that has shackled them to outdated industry practices. As the nation pauses before the economic boom that developing technologies will soon create, a paradox emerges. The community conscience, flexible loan terms and traditionally personal service that black-owned financial institutions have long provided now comprise the "new" formula for success for the entire industry. When megabanks like CitiCorp try to appeal to customers as a friendly community bank, it definitely sends a message: old-fashioned ways have come into fashion again, to render the modern more palatable.

This is the best opportunity for growth among black banks in years. But they must rush to take advantage of the opportunities now. Creating a holding company or a community development corp. are new tools that can help black banks live out their charters in a grander style. Adding the experience of downsized loan officers can help black banks take calculated risks with many of the government loan programs and financing for upcoming empowerment zone development projects.

If black-owned banks look to acquire other banks and develop a regional presence, they may be able to beat the CitiCorps of the banking world at their own game. Black financial institutions know the community banking game better than most because they've been doing it longer. Now is the opportunity to take their expertise to another level. In 1996, they either begin to show this expertise or get purged from the industry in a wave of mergers.

1996 TOP 25 FINANCIAL INSTITUTIONS SUMMARY

BLACK-OWNED                                          Percent
FINANCIAL INSTITUTIONS        1994          1995     Change

Number of Employees           1,901        1,827      -3.89%
Assets(*)                $,3241.818   $3,275.253       1.03%
Capital(*)                 $239.969     $271.651      13.20%
Deposits(*)              $2,840.803   $2,811.518      -1.03%
Loans(*)                 $1,505.571   $1,575.760       4.66%

(*)In millions of dollars, to the nearest thousand. Prepared by B.E. Research. Reviewed by Mitchell & Titus L.L.P.

1996 TOP 10 INSURANCE COMPANIES SUMMARY

BLACK-OWNED                                          Percent
INSURANCE COMPANIES           1994          1995     Change

Number of Employees           2,696        2,440      -9.50%
Assets(*)                  $629.435     $687.457       9.22%
Capital Reserves(*)        $460.681     $494.189       7.27%
Insurance in Force(*)    $8,529.834   $8,923.952       4.62%
Premium Income(*)          $138,348     $160.800      16.23%
Net Investment Income(*)    $39,241      $42,748       8.94%

(*)In millions of dollars, to the nearest thousand. Prepared by B.E. Reviewed by Mitchell & L.L.P.