5 M&A Strategy Steps for Financial Services Organizations

After a period of relatively muted deal activity, the banking industry is poised for a potential resurgence in mergers and acquisitions (M&A) in the coming years. Elevated interest rates, depressed asset values, and declining bank stock prices over the past few years have made it difficult to execute M&A transactions.

However, those factors have been improving, with buzz in the market about a decrease in interest rates as evidenced by the Fed’s 50-basis point cut on Sept. 18, which means now is the time for financial services organizations to determine if an M&A deal would be beneficial for growth. Our team offers five steps organizations can take to help set their M&A strategy and move forward with the right target.

One of the most critical factors of a deal that breeds long-term success is a well-defined M&A strategy that sets a solid foundation for the path forward. The M&A strategy should align to the organization’s overall strategy and growth objectives so that any transaction creates long-term value. For example, an acquisition solely for the sake of getting bigger might not create sustainable value if the target doesn’t align to the organization’s overall strategy and culture. Any potential deal should be carefully evaluated against the long-term vision.

M&A strategy requires considering many facets to achieve a successful deal, and that strategy can differ significantly from organization to organization. Answering these questions can help financial services organizations kick off a successful strategy:

• What is the deal thesis? Why is the organization considering a deal in the first place?
• What are the organization’s ultimate goals (such as growth, consolidation, and geographic expansion), and how might a deal help meet those goals? For some, the goal might be geographic expansion into new markets through the acquisition of an established player in that region. Others might seek capabilities and product enhancements through acquiring a fintech firm to modernize their digital offerings.
• What problems might the deal solve, and what potential problems could arise from considering a deal?
• What are the non-negotiables in the deal?
• What are the performance metrics needed for a successful transaction, and how does the organization define success?

Regardless of the specific rationale, leaders must have a clear understanding of how an acquisition advances their strategic road map. With intentional alignment to strategy, an acquisition can be transformative for an organization’s long-term positioning.

It’s also important for financial services organizations to assess their own M&A readiness to set themselves up for success when executing strategy. These questions can help assess readiness:

• Are there internal issues or challenges that need to be addressed now, before they become a roadblock in executing the deal?
• Are there any gaps in the M&A strategy?
• Does the organization have a detailed project plan in place for the M&A process?
• Has the organization considered what lessons it has learned from prior deals?
• Does the organization have the resources in place to execute its M&A strategy?

The success of these steps hinges on the ability to be open, honest, and transparent. It can be helpful to consult a third party to perform a readiness assessment, especially for organizations that have not gone through the M&A process recently, to help identify potential issues and challenges ahead of time.

Once a financial services organization has created a strategy and defined its goals, establishing the M&A team and resources is a crucial next step, starting with creating a steering committee to help guide the transaction. Organizations should identify a team structure and roles for every phase of the transaction, from before the agreement is signed to closing and through integration, knowing that those roles might shift as the deal progresses. At every stage, it’s important to consider what knowledge and resources the organization has in each area and where it might need to augment with third-party help.

Organizations can establish a dedicated M&A project or integration management office to help keep timelines and tasks on track, facilitate coordination, manage prioritization, and track risks, actions, issues, and decisions throughout the process. It’s also helpful to establish who from the organization will be privy to the proposed transaction, with representation from key functional departments expanding as the deal progress. Finally, organizations should keep their boards updated on progress, including strategy input from management, M&A readiness determinations, resource structure, potential targets, and next steps.

Financial services organizations have a wide range of options to consider when identifying M&A candidates. Following are just a few actions that can help narrow that range to a short list of highest priority candidates.

• Establish the methods and criteria to identify and analyze candidates, which should be aligned with the strategic plan.
• Develop an initial list of the universe of potential candidates, then iterate and refine the criteria based on management feedback.
• Consider five critical areas of risk (the five C’s): credit quality, compliance management, cybersecurity, consumer protection, and culture. (As a note, cultural compatibility might be the most underrated, yet vital, determinant of a deal’s success.)
• Prioritize the candidates and stay up to date on any business developments from the candidates.
• Assess if any known regulatory concerns exist with the candidate or if the buyer would be subject to new regulations based on the target’s business or geographic footprint.

After an initial population of potential candidates is identified, financial services organizations should establish a triage model for high-level screening to assess the fit of the candidate, growth potential, potential issues, and if the deal makes sense financially. For example, are there any concentration, integration, regulatory, or capital concerns that are initial deal-breakers or that would need to be overcome?

Based on the initial list of candidates and triage modeling, financial services organizations should take it a step further with the top candidates and iterate on the candidate list as organizations work through further analysis and communication with those top candidates.

Organizations should take their analysis and triage model of the top candidates to a more detailed level with preliminary pro forma modeling that includes the following:

• Preliminary purchase accounting estimates and related subsequent financial impact
• Key performance indicators, capital position, and financial metrics for the combined organization, aligned to the success metrics determined in the M&A strategy
• Expected cost savings
• Credit portfolio fit, concentrations, and preliminary loss expectations
• Pricing considerations based on the preliminary pro forma model and current stock prices
• Financing and deal structure

Along with specific analysis of the top candidates, communication and relationship building are also important parts of the process. Organizations should establish a process and materials to attract their top targets and position themselves with those targets, investment bankers, and regulators.

Organizations can help themselves establish good relations with their regulators by meeting with regulatory connections early and regularly throughout the process, understanding regulatory concerns, assessing any targets that would present regulatory issues, and being self-aware. For investment bankers, organizations can pitch why they would be a strong buyer.

As organizations prepare materials regarding why they would be a good buyer for a potential target, some information that can be helpful might include the culture fit, employee benefits and support, stock information, and community involvement. Overall, it is important to communicate why the deal would be good for the shareholders and target’s community.

For prospective targets, building relationships is an important part of the process. Many targets might not be ready to sell right now, which is why being intentional and persistent is key. Building relationships through current business, such as joint ventures, loan participations, or holding company loans can help buyers to get to know a target and vice versa. This relationship building can help organizations both further assess the cultural fit of the target and stand out as a buyer of choice when the target is ready to sell, which can lead to a deal negotiation rather than being subject to an auction.

Setting an M&A strategy before deal negotiations begin can be a major factor in alleviating challenges or roadblocks as a deal progresses. However, there’s a lot to consider.

Whether a financial services organization has gone through multiple deals or has no M&A experience, it can be beneficial to engage with a third party with deep banking and M&A experience to help assess readiness and the organization’s M&A strategy, perform preliminary financial modeling, and navigate challenges along the way.