Which Banks are Smart Acquirers?
Since the beginning of 1991, more than 5,700 bank and thrift acquisitions, comprising about $1.3 trillion in aggregate value, have been announced. Excluding Citigroup, all of the largest banking institutions in the United States are large specifically because they were acquisitive.
The U.S. banking sector has seen so many mergers and acquisitions in recent history because there are an abundance of banks in the United States, organic growth opportunities are few, and the deals provide large economies of scale.
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How fast a bank grows, under this logic, is determined by how good a bank is at acquiring other banks. But what determines the worth of an acquisition? While earnings per share is an often used marker, its use begets further questions. For example, if the EPS stagnates, was it because of problems with the target, problems with the acquirer, or macro problems? Was the deal priced badly, or did merger integration fail to meet expectations?
However one clear indicator of a failed deal exists: goodwill charges.
At one time, banks had the ability to use pooling-of-interest accounting in stock-for-stock deals, of which large bank deals usually are. With that method, the balance sheets of the acquirer and target were added together, with no acquisition goodwill created. No goodwill meant no goodwill amortization expense and therefore higher earnings.
When pooling was abolished in 2000, there was a ballooning of goodwill on the largest bank’s balance sheets.
Wells Fargo’s (NYSE:WFC) Q2 2012 goodwill amounted to $25 billion, or 18 percent of common equity, and JPMorgan Chase’s (NYSE:JPM) was $48 billion, or 26 percent, and neither bank has written off any goodwill as impaired. However Citigroup and Bank of America are more erratic. In the second quarter of 2012, Citigroup (NYSE:C) had a goodwill of $25 billion, and Bank of America (NYSE:BAC) had a goodwill of $70 billion, writing off $10 and $16 billion respectively. But both write-offs are relatively low in percentage terms; Citigroup’s goodwill to common equity stands at 14 percent and Bank of America’s at 32 percent.
While the magnitude of the intangible asset figure should not scare investors, because intangible assets clearly have value, when banks charge off large amounts of goodwill it is seen as an admission that the bank had made a bad acquisition.
In 2008, during the financial crisis, losses in goodwill compounded bank’s troubles; by the end of the year banks still had $291 billion worth of good will on their books.
Bank of America and Citigroup may not have the strong operating performance of JPMorgan, but its intangible assets have not grown especially large relative to common equity.