Saturday, November 24, 2012

Shark Tank: Bankers' Edition

Reality shows are generally not my thing. Don’t get me wrong, I’m often subjected to the genre because I submit to family preferences. How else would I know that Emmitt Smith is quite the twinkle toes. But, while channel surfing, I discovered Shark Tank.

On Shark Tank (see the clip below), entrepreneurs pitch their ideas to a panel of angel investors, known as sharks, to win funding for their enterprise. The sharks, one of whom is Mark Cuban, the colorful owner of the Dallas Mavericks, pillory the entrepreneur with questions about their product(s) and business plan. After the Q&A, they decide if they want to fund the venture, and at what level. Watching and listening to the questions, answers, offers and counteroffers is fascinating.

I recently read a NY Times You're the Boss Blog article regarding how banks can fund small businesses. It made me think of Shark Tank. Businesses evolve through various stages. In early stages, entrepreneurs struggle to get funding. It’s generally too risky for a bank loan. So, early stage funding typically starts with owner’s capital, then to friends and family if it gets that far, then to angel investors. Banks will entertain a loan typically after a few years of successful operation. There are exceptions, however. The SBA loan program was designed to get earlier stage capital to entrepreneurs. But generally, young businesses need equity, not debt.

Many banks are headquartered or have significant presence in communities that are experiencing economic difficulties. This impacts loan quality, loan demand, growth, and profitability. But most banks remain on the sidelines when it comes to small business formation. The businesses formed today, appropriately capitalized, will be those that sustain our communities in the future. Some of the fastest growing companies today are not that old...i.e., VistaPrint, Netflix, etc.

These businesses needed capital. Many top new companies are located in California’s Silicon Valley, and not coincidentally, that is where many venture capital firms are located. As traditional providers of capital, can banks participate in funding early stage ventures? I say yes because of community banks’ unique position in our communities.

But funding early stage businesses does not have to be with the traditional bank loan, or even an SBA loan. These are equity investments, higher risk seeking higher return. I think banks can sponsor their own version of Shark Tank. Not as sole investors in an angel fund, but as investors and managers of an angel fund, much like the sharks of Shark Tank. What would be bankers’ objections:

1. It is an impermissible activity… jfb response: Put it at the holding company. Many banks manage mutual funds in their trust companies, don’t they?

2. It wouldn’t be profitable… jfb response: I wonder how venture and angel funds do it? A small, $10 million fund can earn a 2% annual fee ($200,000) and 20% of the “ups” (fund returns). So if an angel fund averaged a 10% annual return (low for venture fund standards), the revenues to the manager of the fund would be $400,000 ($200,000 annual fee plus 20% of the $1 million annual return). You couldn’t manage a $10 million fund for $400,000/year?

3. We would have to turn down more businesses than fund… jfb response: True! But it would force startups to develop a business plan to chart their future and present to the sharks. Even if the venture doesn’t win the funding, the entrepreneur would have thought through the business more thoroughly. How many times do you drive by a new business that you don’t think will make it? Through this process, those that get turned down may turn their entrepreneurial spirit to a more sustainable venture, or burn with a greater desire to prove you wrong!

The benefits, in my opinion, would be:

1. Get more funding to promising startups. One of the top reasons for business failure is lack of capital.

2. Turn your community into a business incubator. Bring enough publicity to your process, you are likely to get more businesses seeking funding. Do you see having more, higher quality startups in your community as a good thing?

3. Build a sustainable future for your community. The employers of today are not likely to be the employers for the next generation in your local area. Acquisitions, changing consumer preferences, and general corporate inertia make today’s strong business into tomorrow’s dinosaur. Remember the Palm PDA? Strong, vibrant communities should always be looking to the next ventures that will sustain them into the next generation.

What do you see as advantages and disadvantages of a community bank sponsoring its own Shark Tank?

~ Jeff

Saturday, November 17, 2012

Deposit Fees: Now Is The Time

Aside from my Navy days, I have been in banking all of my life. But I don't balance my checking account. Instead, I run the family budget through a spreadsheet, check my account activity online, and hope for the best. Last week the best got to me. I overdrew my account because I failed to log an auto repair in my trusty budget spreadsheet.

Did I bounce checks? No, because I have a small line of credit to cover such eventuality. It's not the first time I've done this. For the convenience of moving money from the LOC to checking to cover incoming items, my bank charged me a $10 transfer fee: usury rates if a sanctimonious US Senator took to the microphone. But I was happy to pay for it to cover up my miscue.

I recently read an interesting article in Bank Director magazine by Mike Blanton of StrategyCorps. He specializes in designing and promoting profitable checking accounts for financial institutions. In the article, he cites an April 2012 study by Market Rates Insight that identifies fee services that our customers want to use and would be willing to pay for. Scoring high were so-called Lifestyle Financial Services... add-on services that are convenient to, or a concern of our customers. See the table below.

This makes sense to me. In an era where lawmakers and regulators attacked our ability to charge overdraft fees, new opportunities seem to have arrived. If banks implement these value added fees, it will go a long way to improve the profitability of the checking account.  

Improvement is imperative. I wrote a blog post two years ago regarding the importance of fee income to the profitability of the checking account, citing my firm's profitability peer group showing deposit fees as a percent of average deposits declining 22 basis points between 2005-2010. We have yet to recover those fees.

When loan demand outpaced deposit growth we were content charging little to nothing for depositors to bring their money to us. We trained them to be price sensitive, and to demand "free". Now that loan demand is weak and most financial institutions are highly liquid, it is time to evaluate the fees customers are willing to pay because they value the service(s) our bank provides.

What are you doing to improve the profitability of the checking account?

~ Jeff

Saturday, November 10, 2012

The Jeff For Banks Federal Income Tax System

This is not a political blog. I do not express political opinions, at least overtly. Because I have opinions. Oh I have opinions. But this presidential election season had me whaling and gnashing teeth for it to be over, much like that toddler on YouTube. I would much prefer to analyze personal relationships on Jersey Shore than be subjected to more taunts and finger pointing from presidential hopefuls. Much less having to read about it on Twitter and Facebook. So for Thanksgiving, I'm thankful it is over. Or is it?

I thought Wednesday would mark a new day. But no. Now I have to hear about the Fiscal Cliff. The result of Congress and the President not being able to do their jobs earlier resulted in this mess now. So now we're back at it.

Well let this blog save you time and effort Mr. President and Mr. Speaker. I am putting forth the Jeff For Banks (jfb) Federal Income Tax system that is fair, easy, and balanced. Lest I hear from the Oracle of Omaha about how he pays a lower tax rate than his secretary, I have your fix Mr. Buffett.

Here it is:

Rows 1 - 4: All income is taxable, whether it be from earned income, interest, dividends, or capital gains. There is no distinction between them.

Row 1: Pre-earned income deductions include health insurance and retirement plan contributions. Each will be capped at a certain level, so those with greater disposable income can't sock suitcase fulls of cash away, and those that have Taj Mahal medical coverage can't use all as a pre-tax deduction. I am not married to treating this prior to row 1. I can compromise. These deductions could be included in the income numbers in Row 1-4 and deducted in the deductions section. But for treatment similar to today's, I have deducted them prior to Row 1.

Rows 5-8: Aside from pre-income deductions listed above, there are only three deductions. Boom.

Row 5: Households can deduct the poverty rate for the same size family for the area which you live, up to a maximum amount of children. So if you're a good Catholic family and fielded a baseball team full of kids, too bad. I'm not subsidizing you. Control yourself. 

Row 6: You maintain the mortgage interest deduction up to the median house value where you live. So if you bought a McMansion and have a $300,000 loan, but the median home value where you live is $200,000, then you can only deduct two-thirds of the mortgage interest you paid. No deduction on second homes. Sorry Mitt.

Row 7: An ideal America would have its citizens earning what their skills and efforts would allow, taking what they need, and giving the rest away to help those less fortunate. Unfortunately, if high earners did this today, it could drop their effective tax rates below that of their secretaries. We all know how that turned out in the court of public opinion. Poor Mitt had an effective tax rate of 17%. But he gave $4 million to charity last year. If he only kept it in his pocket, or offshore account, his effective tax rate would have been higher and he could have avoided the whole fracas. But no. So we have to cap the deduction on what we give to charities. The jfb system proposes 10% of total taxable income up to a maximum of $100,000.

Not for profits will hate this idea. But I propose it to shut Warren Buffett up about his tax rate.

Economists might not like the idea, saying losing this deduction or that will sap the economy. But isn't our economy sapped already?

Politicians will hate the idea, because it will make us think we can go back to the days where politicians actually had real jobs and were only in session part time. Without all this tax code tinkering, they may not have enough to do. Not that they have a lot to do now. Maybe they can slowly dismantle the ridiculous amount of laws on the books that we have to comply with, and law enforcement is tasked with enforcing.

There you have it. The jfb Federal Income Tax System. It sets one rate, 20%, with few easy to calculate deductions. Heck, if the IRS got its act together, it could have an app on its site so we can do it in 15 minutes or less. Think of all the tax code compliance costs that would hit the bricks.

Let's just do it.

~ Jeff

P.S. Since this is a bank blog, I should make a link to banking. Put the amount of money you now spend on tax compliance in the bank and sleep soundly at night. There.

Saturday, November 03, 2012

The Case for the Big Branch

I had a very interesting conversation with a bank client today. He called me to discuss, among other things, his bank's expansion strategy. During the discussion, I mentioned that I had recently driven by one of his branches and that it was the biggest in town. What he said about it inspired this post.

Being the biggest branch in town, in terms of square footage, is not something cheered among industry pundits these days. Indeed, if I were to summarize the sentiment, it would be that future branches would be much smaller, but with big a** signs. Those were another bank consultant's words, not mine.

This CEO isn't buying it. He said that since that branch underwent a $1.5 million renovation, its deposits grew by 40%. In prior years its deposit totals had remained in a relatively tight band. He opined that it is "amazing what visibility, access, and egress" does for a branch. He also said that his business owner customers demanded a nearby branch.

But he did not think the branch had to be in the same town as the business. The next town over would due.

Now that makes sense to me. If it costs, on average, $600,000 per year in operating expenses to run a standard branch, wouldn't it make sense to build a large, marquis-type branch in every other town that cost $800,000 per year? By abandoning the every town strategy, you effectively save $400,000 per year.

I looked at a few banks that I know that do very well with their branch networks but were not clients so I can opine based on public data and not inside knowledge. One such bank, First National Bank & Trust of Newtown (PA), had a similar branch as my client's (see photo).

This is FNB&T's New Hope office. It is two towns, or nine miles, from the nearest office. The New Hope office is an end cap to a very nice strip mall that has excellent traffic patterns and easy access. According to FDIC data, the branch grew from $41 million in deposits at June 30, 2007, to $70 million at June 30, 2012, a 70% increase.

Lest you think that price promotions drove their growth, this bank's time deposits as a percent of total deposits declined during that time. Oh, and time deposits/total deposits is currently 18%. So, even though I can't tell the exact deposit composition of the New Hope branch from public data, I would doubt that CD's drove this branch's growth. It is not in FNB&T's DNA.

Before we jump hard onto the mobile is king bandwagon, perhaps we should pause to think about what my client told me today. It only took 10 minutes of non-scientific perusing to find another bank's branch to validate his strategy. Perhaps, then, the branch is not dead.

~ Jeff